Auditing ch 7

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40 terms · Auditing & Assurance Services by Thibodeau and Louwers Ch 7, 8, 11, 12, and Module A

audit risk

the risk that auditors will issue an unqualified opinion on financial statements that contain a material misstatement

To be recognized, revenues must be

realized or realizable and earned

Revenue is realized or realizable and earned when ALL of the following are met:

1. Persuasive evidence of an arrangement exists
2. Delivery has occurred or services have been rendered
3. The seller's price to the buyer is fixed or determinable
4. Collectibility is reasonably assured

Revenue and collection cycle

1. receiving and processing customer orders including credit approval
2. delivering goods and services to customers
3. billing customers and accounting for accounts receivable
4. collecting and depositing cash received from customers

bill of lading

a form signed by the carrier to verify the goods are shipped

packing slip

describes the goods being shipped, often included with shipment

sales invoice

the bill sent to the customer that indicates the amount due

Any person who has the power to enter or alter transactions or to change the invoice before it is mailed to the customer should not have any of these responsibilities:

authorization, custody or recording responsibilities

Pending Order Master File contains

sales transactions that were initiated but not yet completed and thus not yet recorded as sales

The pending orders can be reviewed for evidence of the _____ assertion of recorded sales and accounts receivable.

completeness

When vouching invoices and sales journal entities to price lists it is important to make certain you have the price list that was in effect at the time of

the customer's order.

The sales detail file can be scanned using computer assisted auditing techniques for entries without ____ and for matching ____ with ____.

without shipping references (fictitious sales?) and for matching recording dates with shipment dates (sales recorded before shipment?)

aged trial balance

A schedule that lists each individual receivable and indicates whether it is current or past due, and how long it is past due. The total should equal the accounts receivable general ledger balance

The cash receipts journal contains

all the detail entries for cash deposits and credits to various accounts

The best control over whether cash is received and recorded is to

send customers monthly statements of what has been billed, what has been paid, and ending monthly balances enables them to spot discrepancies and notify the company.

Substantive procedures are applied in the audit of these account balances in the revenue and collection cycle:

1. cash int he bank
2. accounts receivable
3. allowance for doubtful accounts
4. bad debt expense
5. sales revenue
6. sales returns, allowances and discounts

Combination of two or more of these responsibilities in one person, one office, or one computerized system may open the door for errors and fraud:

sales and credit authorization; custody of goods and cash; record keeping for sales, receivables, inventory, and cash receipts

In a small business where the benefits do not outweigh the costs of complete separation of duties, in order to obtain reasonable assurance that financial controls are intact

the owner must have active involvement in the accounting process- approving credit and discounts, reviewing the aged accounts receivable listing, and occasionally opening the mail

These control activities should be in place to prevent and detect errors:

no sales order should be entered without a customer order; a credit-check code or manual signature should be recorded for authorization; access to inventory and the shipping area should be restricted to authorized persons; access to billing terminals and blank invoice forms should be restricted to authorized personnel; accountants should be instructed to record sales and accounts receivable when all the supporting documentation of shipment is in order; care should be taken to record sales and receivables as of the date the goods and services were shipped and the cash receipts on the date the payments were received; customer invoices should be compared with bills of lading and customer orders to determine that the customer is sent the goods ordered at the proper location for the proper prices and that the quantity being billed is the same as the quantity shipped; pending order files should be reviewed frequently to avoid failure to bill and record shipments; procedures should be in place to ensure errors noted by these steps are properly corrected (error control log monitored by the information systems supervisor)

A revenue and collection walkthrough involves

following a sale from the initial customer order through credit approval, billing, and delivery of goods, to the entry in the sales journal and subsidiary accounts receivable records, then its subsequent collection and cash deposit

Tests of controls determine whether company personnel are properly performing controls that are said to be in place. These tests include

vouching, tracing, observing, scanning, and recalculating

_____ sample of shipping documents to invoices to obtain evidence about control over completeness.

Trace

_____ sample of invoices to shipping documents to obtain evidence about control over occurrence.

Vouch

Existence- Accounts receivable exist. substantive procedure?

Confirm a sample of accounts receivable and perform follow-up procedures.

Rights and obligation-the entity holds or controls the rights to accounts receivable. substantive procedure?

Inquire whether any receivables have been sold or factored. Review bank confirmations, loan agreements, and minutes of the board for indications of pledged, discounted, or assigned receivables.

Completeness- all receivables that should have been recorded are recorded. substantive procedure?

Perform sales cutoff tests. Include a sample of zero- balance accounts in the confirmation process.

Valuation or allocation- receivables are included in the financial statements at appropriate amounts and any resulting valuation adjustments are properly recorded. substantive procedure?

Obtain an aged trial balance of individual customer accounts and test the aging. Compare current year write-off experience to the prior-year allowance for bad debts. Examine cash receipts after the balance sheet date for collections on past due accounts. For large past due accounts, obtain financial statements or credit reports and discuss with the credit manager. Calculate an allowance estimate using prior relations of write-offs and sales taking under consideration current economic events.

The use of confirmations for accounts receivable is considered a required audit procedure by

GAAS

If auditors choose not to use confirmations for accounts receivable they should document justification for the decision, which may include

1. receivables are not material
2. confirmations would be ineffective based on prior years' experience or knowledge that responses could be unreliable
3. analytical procedures and other substantive procedures provide sufficient, competent evidence

positive confirmation

asks the customer to respond whether the balance is correct or incorrect; most commonly used; is used when balances are relatively large or when accounts are in dispute

blank confirmation

does not contain the balance, customers are asked to fill it in themselves; produces better evidence but may cause a lower response rate

negative confirmation

asks for a response only if something is wrong with the balance; used when risk of material misstatement is considered low, when a large number of small balances is involved, and when the client's customers can be expected to consider the confirmations properly

When confirmation is performed at an interim date, the following additional procedures should be considered:

1.obtain a summary of receivables transactions from the interim date to the year-end date and review them for unusual items
2. vouch a selected sample of transactions for the period
3. obtain a year-end trial balance of receivables, compare it to the interim trial balance, and obtain evidence and explanations for large variations
4. consider the necessity for additional confirmations as of the balance sheet date if balances have significantly increased

If a client's customer is not willing or able to return the confirmation, auditors will have to perform these alternative procedures to ensure existence:

subsequent cash receipts; sales orders, invoices, and shipping documents; and correspondence files for past due accounts

The audit team must review accounts for collectibility and determine the adequacy of the allowance for doubtful accounts in support of the _______ assertion.

valuation

To review accounts for collectibility, auditors review

subsequent cash receipts from the customer, discuss unpaid accounts with the credit manager, and examine the credit files

sales cutoff period procedures

tracing shipping documents before and after year-end to the sales journal to ensure the sale was recorded in the proper period; credit memos for returns after year-end are vouched to receiving reports; any goods returned after year-end that were sold during the year being audited should be deducted from sales

Cutoff errors cause ____, ___ and ___ to be overstated and _____ to be understated.

accounts receivables, sales, and cost of goods sold is overstated and inventory is understated by cutoff errors.

substantive procedures

audit procedures to gather evidence on the assertions in account balances; to obtain direct evidence about the dollar amounts in account balances; goal is to detect evidence of any material misstatement due to errors or fraud

dual-purpose procedure

audit procedures that can be used as a substantive procedure and as a test of control

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