16 - 1 ©2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder Completing the...

16 - 1©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder

Completing the Tests Completing the Tests in the Sales and in the Sales and Collection Cycle:Collection Cycle:Accounts ReceivableAccounts Receivable

Chapter 16Chapter 16


Learning Objective 1Learning Objective 1

Describe the methodology forDescribe the methodology for

designing tests of details ofdesigning tests of details of

balances using the auditbalances using the audit

risk model.risk model.


Accounts Receivable Balance-Accounts Receivable Balance-Related Audit ObjectivesRelated Audit Objectives

Detail tie-inDetail tie-inDetail tie-inDetail tie-in

RealizableRealizablevaluevalue

RealizableRealizablevaluevalue

ClassificationClassificationClassificationClassificationAccuracyAccuracyAccuracyAccuracy

ExistenceExistenceExistenceExistence

RightsRightsRightsRights

CompletenessCompleteness CompletenessCompleteness

Cutoff Cutoff Cutoff Cutoff

PresentationPresentationand disclosureand disclosurePresentationPresentation

and disclosureand disclosure


Identify client business risks affecting accountsIdentify client business risks affecting accountsreceivable.receivable.

Identify client business risks affecting accountsIdentify client business risks affecting accountsreceivable.receivable.

Methodology for Designing TestsMethodology for Designing Testsof Details of Balances for A/Rof Details of Balances for A/R

Phase IPhase IPhase IPhase I

Set tolerable misstatement and assess inherentSet tolerable misstatement and assess inherentrisk for accounts receivable.risk for accounts receivable.

Set tolerable misstatement and assess inherentSet tolerable misstatement and assess inherentrisk for accounts receivable.risk for accounts receivable.

Assess control risk for sales and collection cycle.Assess control risk for sales and collection cycle.Assess control risk for sales and collection cycle.Assess control risk for sales and collection cycle.



Design and perform tests of controls andDesign and perform tests of controls andsubstantive tests of transactions for thesubstantive tests of transactions for thesales and collection cycle.sales and collection cycle.

Design and perform tests of controls andDesign and perform tests of controls andsubstantive tests of transactions for thesubstantive tests of transactions for thesales and collection cycle.sales and collection cycle.

Phase IIPhase IIPhase IIPhase II


TimingTimingTimingTimingItems toItems toselectselect

Items toItems toselectselect

SampleSamplesizesize

SampleSamplesizesize

AuditAuditproceduresprocedures

AuditAuditproceduresprocedures


Design and perform analytical procedures forDesign and perform analytical procedures foraccounts receivable balance.accounts receivable balance.

Design and perform analytical procedures forDesign and perform analytical procedures foraccounts receivable balance.accounts receivable balance.

Phase IIIPhase IIIPhase IIIPhase III

Design tests of details of accounts receivableDesign tests of details of accounts receivablebalance to satisfy balance-related audit objectives.balance to satisfy balance-related audit objectives.

Design tests of details of accounts receivableDesign tests of details of accounts receivablebalance to satisfy balance-related audit objectives.balance to satisfy balance-related audit objectives.


Relationship Between Sales and Relationship Between Sales and Accounts ReceivableAccounts Receivable

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Accounts receivable balance-related audit objectivesAccounts receivable balance-related audit objectives

Translation-relatedTranslation-relatedaudit objectivesaudit objectives

SalesSales

ExistenceExistence

CompletenessCompleteness

AccuracyAccuracy

ClassificationClassification

TimingTiming

Posting/SummaryPosting/Summary

××××

××××

××××


Relationship Between Sales and Relationship Between Sales and Accounts ReceivableAccounts Receivable

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Accounts receivable balance-related audit objectivesAccounts receivable balance-related audit objectives

Translation-relatedTranslation-relatedaudit objectivesaudit objectivesCash receiptsCash receipts

ExistenceExistence

CompletenessCompleteness

AccuracyAccuracy

ClassificationClassification

TimingTiming

Posting/SummaryPosting/Summary

××××

××××

××××



Design and perform analyticalDesign and perform analytical

procedures for accounts in theprocedures for accounts in the

sales and collection cycle.sales and collection cycle.


Analytical Procedures for the Analytical Procedures for the Sales and Collection CycleSales and Collection Cycle

Gross margin percentage with previous yearsGross margin percentage with previous yearsGross margin percentage with previous yearsGross margin percentage with previous years

Sales by month over timeSales by month over timeSales by month over timeSales by month over time

Sales returns and allowances as a percentage ofSales returns and allowances as a percentage ofgross sales with previous yearsgross sales with previous years

Sales returns and allowances as a percentage ofSales returns and allowances as a percentage ofgross sales with previous yearsgross sales with previous years



Individual customer balances over a stated amountIndividual customer balances over a stated amountIndividual customer balances over a stated amountIndividual customer balances over a stated amount

Bad debt expense as a percentage of gross salesBad debt expense as a percentage of gross salesBad debt expense as a percentage of gross salesBad debt expense as a percentage of gross sales

Days that accounts receivable are outstandingDays that accounts receivable are outstandingDays that accounts receivable are outstandingDays that accounts receivable are outstanding



Aging category as a percentage of receivablesAging category as a percentage of receivablesAging category as a percentage of receivablesAging category as a percentage of receivables

Allowance for uncollectible accounts as aAllowance for uncollectible accounts as apercentage of accounts receivablepercentage of accounts receivable

Allowance for uncollectible accounts as aAllowance for uncollectible accounts as apercentage of accounts receivablepercentage of accounts receivable

Charge-off of uncollectible accounts as aCharge-off of uncollectible accounts as apercentage of total accounts receivablepercentage of total accounts receivable

Charge-off of uncollectible accounts as aCharge-off of uncollectible accounts as apercentage of total accounts receivablepercentage of total accounts receivable


Selected Comparative InformationSelected Comparative Information

SalesSalesGross marginGross marginAccounts receivableAccounts receivableBad debt expenseBad debt expenseTotal current assetsTotal current assetsTotal assetsTotal assetsNet earningsNet earningsNumber of accountsNumber of accounts receivablereceivableNumber of accts. rec. withNumber of accts. rec. with balances over $100,000balances over $100,000

144,328144,328 39,84539,845 20,19720,197 3,3233,323 51,02751,027 61,36761,367 5,6815,681

258258

3737

9.09.0 9.69.6 7.37.3 (2.1)(2.1)14.014.0 (7.0)(7.0)21.921.9

16.716.7

15.615.6

132,421132,421 36,35036,350 18,82718,827 3,3943,394 44,77944,779 66,02166,021 4,6594,659

221221

3232

7.07.0 7.07.014.114.1 7.37.3 6.66.6 8.08.039.039.0

5.75.7

6.76.7

123,737123,737 33,96133,961 16,50516,505 3,1623,162 41,98941,989 61,14761,147 3,3513,351

209209

3030

12/31/0412/31/04($000)($000)

PercentPercentchangechange2003-2003-20042004

12/31/0312/31/03($000)($000)

PercentPercentchangechange2002-2002-20032003

12/31/0212/31/02($000)($000)


Analytical Procedures: Sales and Analytical Procedures: Sales and Collection CycleCollection Cycle

Gross margin/net salesGross margin/net salesSales returns and allowances/Sales returns and allowances/ gross salesgross salesBad debt expense/net salesBad debt expense/net salesAllowance for uncollectibleAllowance for uncollectible accounts/accounts receivableaccounts/accounts receivableNumber of days receivablesNumber of days receivables outstandingoutstandingNet accounts receivable/Net accounts receivable/ current assetscurrent assets

27.85%27.85%

0.90%0.90% 2.30%2.30%

6.10%6.10%

48.0948.09

37.20%37.20%

27.70%27.70%

0.90%0.90% 2.60%2.60%

7.50%7.50%

47.9647.96

32.50%32.50%

27.68%27.68%

0.90%0.90% 2.60%2.60%

6.40%6.40%

49.3249.32

32.30%32.30%

12/31/0412/31/04 12/31/0312/31/03 12/31/0212/31/02


Design and Perform Tests of Design and Perform Tests of Details of A/R Balance (Phase III)Details of A/R Balance (Phase III)

Planned detection risk for each objectivePlanned detection risk for each objectiveis an auditor decision.is an auditor decision.

Planned detection risk for each objectivePlanned detection risk for each objectiveis an auditor decision.is an auditor decision.

Combining the factors that determineCombining the factors that determineplanned detection risk is complex.planned detection risk is complex.

Combining the factors that determineCombining the factors that determineplanned detection risk is complex.planned detection risk is complex.


Analytical Procedures for Gross Analytical Procedures for Gross MarginMargin

HardwoodHardwoodSoftwoodSoftwoodPlywoodPlywood

36.336.323.923.940.340.3

20052005 20042004 20032003

32.432.422.022.050.150.1

36.436.420.320.344.244.2

32.532.522.122.154.354.3

36.036.020.520.545.445.4

32.332.322.322.355.655.6

Gross margin percentGross margin percent

GreatGreatWesternWestern IndustryIndustry





Design and perform tests ofDesign and perform tests of

details of balances for accountsdetails of balances for accounts

receivable for each balance-receivable for each balance-

related audit objective.related audit objective.


Designing Tests of DetailDesigning Tests of Detailof Balancesof Balances

Accounts receivable are correctly added andAccounts receivable are correctly added andagree with the Master File and the Generalagree with the Master File and the GeneralLedger (Ledger (aged trial balanceaged trial balance).).

Accounts receivable are correctly added andAccounts receivable are correctly added andagree with the Master File and the Generalagree with the Master File and the GeneralLedger (Ledger (aged trial balanceaged trial balance).).

Recorded accounts receivable existRecorded accounts receivable existRecorded accounts receivable existRecorded accounts receivable exist

Existing accounts receivable are includedExisting accounts receivable are includedExisting accounts receivable are includedExisting accounts receivable are included



Accounts receivable are accurateAccounts receivable are accurateAccounts receivable are accurateAccounts receivable are accurate

Accounts receivable are properly classifiedAccounts receivable are properly classifiedAccounts receivable are properly classifiedAccounts receivable are properly classified

Cutoff for accounts receivable is correctCutoff for accounts receivable is correctCutoff for accounts receivable is correctCutoff for accounts receivable is correct



Accounts receivable is stated at realizable valueAccounts receivable is stated at realizable valueAccounts receivable is stated at realizable valueAccounts receivable is stated at realizable value

The client has rights to accounts receivableThe client has rights to accounts receivableThe client has rights to accounts receivableThe client has rights to accounts receivable

Accounts receivable presentation andAccounts receivable presentation anddisclosures are properdisclosures are proper

Accounts receivable presentation andAccounts receivable presentation anddisclosures are properdisclosures are proper



Obtain and evaluate accountsObtain and evaluate accounts

receivable confirmations.receivable confirmations.


AICPA RequirementsAICPA Requirements

1.1. Accounts receivable are immaterial.Accounts receivable are immaterial.1.1. Accounts receivable are immaterial.Accounts receivable are immaterial.

2.2. The auditor considers confirmationsThe auditor considers confirmationsineffective evidence because responseineffective evidence because responserates will likely be inadequate or unreliable.rates will likely be inadequate or unreliable.

2.2. The auditor considers confirmationsThe auditor considers confirmationsineffective evidence because responseineffective evidence because responserates will likely be inadequate or unreliable.rates will likely be inadequate or unreliable.

3.3. The combined level of inherent risk andThe combined level of inherent risk andcontrol risk is low and other substantivecontrol risk is low and other substantiveevidence can be accumulated to provideevidence can be accumulated to providesufficient evidence.sufficient evidence.

3.3. The combined level of inherent risk andThe combined level of inherent risk andcontrol risk is low and other substantivecontrol risk is low and other substantiveevidence can be accumulated to provideevidence can be accumulated to providesufficient evidence.sufficient evidence.


Type of ConfirmationType of Confirmation

Positive confirmationPositive confirmationPositive confirmationPositive confirmation

Blank confirmation formBlank confirmation formBlank confirmation formBlank confirmation form

Invoice confirmationInvoice confirmationInvoice confirmationInvoice confirmation

Negative confirmationNegative confirmationNegative confirmationNegative confirmation


TimingTiming

The most reliable evidence from confirmationsThe most reliable evidence from confirmationsis obtained when they are sent as close to theis obtained when they are sent as close to thebalance sheet date as possible, as opposedbalance sheet date as possible, as opposedto confirming the accounts several monthsto confirming the accounts several monthsbefore year-end.before year-end.

The most reliable evidence from confirmationsThe most reliable evidence from confirmationsis obtained when they are sent as close to theis obtained when they are sent as close to thebalance sheet date as possible, as opposedbalance sheet date as possible, as opposedto confirming the accounts several monthsto confirming the accounts several monthsbefore year-end.before year-end.


Sample SizeSample Size

Tolerable misstatementTolerable misstatementTolerable misstatementTolerable misstatement

Inherent riskInherent riskInherent riskInherent risk

Control riskControl riskControl riskControl risk

Achieved detection risk fromAchieved detection risk fromother substantive testsother substantive tests

Achieved detection risk fromAchieved detection risk fromother substantive testsother substantive tests

Type of confirmationType of confirmationType of confirmationType of confirmation


Selection of the Items for TestingSelection of the Items for Testing

When selecting a sample of accounts receivableWhen selecting a sample of accounts receivablefor confirmation, the auditor should be carefulfor confirmation, the auditor should be carefulto avoid being influenced by the client.to avoid being influenced by the client.

When selecting a sample of accounts receivableWhen selecting a sample of accounts receivablefor confirmation, the auditor should be carefulfor confirmation, the auditor should be carefulto avoid being influenced by the client.to avoid being influenced by the client.


Selection of Items for TestingSelection of Items for Testing

If a client tries to discourage the auditor fromIf a client tries to discourage the auditor fromsending confirmations to certain customers,sending confirmations to certain customers,the auditor should consider the possibilitythe auditor should consider the possibilitythat the client is attempting to concealthat the client is attempting to concealfictitious or known misstatementsfictitious or known misstatementsof accounts receivable.of accounts receivable.

If a client tries to discourage the auditor fromIf a client tries to discourage the auditor fromsending confirmations to certain customers,sending confirmations to certain customers,the auditor should consider the possibilitythe auditor should consider the possibilitythat the client is attempting to concealthat the client is attempting to concealfictitious or known misstatementsfictitious or known misstatementsof accounts receivable.of accounts receivable.


Maintaining ControlMaintaining Control

After the items for confirmation have beenAfter the items for confirmation have beenselected, the auditor must maintain controlselected, the auditor must maintain controlof the confirmations until they are returnedof the confirmations until they are returnedfrom the customer.from the customer.

After the items for confirmation have beenAfter the items for confirmation have beenselected, the auditor must maintain controlselected, the auditor must maintain controlof the confirmations until they are returnedof the confirmations until they are returnedfrom the customer.from the customer.


Follow-up on NonresponsesFollow-up on Nonresponses

When positive confirmations are used,When positive confirmations are used,SAS 67 requires follow-up proceduresSAS 67 requires follow-up proceduresfor confirmations not returned by for confirmations not returned by he customer.he customer.

When positive confirmations are used,When positive confirmations are used,SAS 67 requires follow-up proceduresSAS 67 requires follow-up proceduresfor confirmations not returned by for confirmations not returned by he customer.he customer.


Subsequent Cash ReceiptsSubsequent Cash Receipts

Evidence of the receipt of cash subsequentEvidence of the receipt of cash subsequentto the confirmation date includes examiningto the confirmation date includes examiningremittance advices, entries in the cashremittance advices, entries in the cashreceipts records, or perhaps evenreceipts records, or perhaps evensubsequent credits in the accountssubsequent credits in the accountsreceivable master file.receivable master file.

Evidence of the receipt of cash subsequentEvidence of the receipt of cash subsequentto the confirmation date includes examiningto the confirmation date includes examiningremittance advices, entries in the cashremittance advices, entries in the cashreceipts records, or perhaps evenreceipts records, or perhaps evensubsequent credits in the accountssubsequent credits in the accountsreceivable master file.receivable master file.


Duplicate Sales InvoicesDuplicate Sales Invoices

These are useful in verifying the actualThese are useful in verifying the actualissuance of a sales invoice and theissuance of a sales invoice and theactual date of the billing.actual date of the billing.

These are useful in verifying the actualThese are useful in verifying the actualissuance of a sales invoice and theissuance of a sales invoice and theactual date of the billing.actual date of the billing.


Shipping DocumentsShipping Documents

These are important in establishingThese are important in establishingwhether the shipment was actuallywhether the shipment was actuallymade and as a test of cutoff.made and as a test of cutoff.

These are important in establishingThese are important in establishingwhether the shipment was actuallywhether the shipment was actuallymade and as a test of cutoff.made and as a test of cutoff.


Correspondence With the ClientCorrespondence With the Client

Usually, the auditor does not need to reviewUsually, the auditor does not need to reviewcorrespondence as a part of alternativecorrespondence as a part of alternativeprocedures, but correspondence canprocedures, but correspondence canbe used to disclose disputed andbe used to disclose disputed andquestionable receivables notquestionable receivables notuncovered by other means.uncovered by other means.

Usually, the auditor does not need to reviewUsually, the auditor does not need to reviewcorrespondence as a part of alternativecorrespondence as a part of alternativeprocedures, but correspondence canprocedures, but correspondence canbe used to disclose disputed andbe used to disclose disputed andquestionable receivables notquestionable receivables notuncovered by other means.uncovered by other means.


Analysis of DifferenceAnalysis of Difference

Payment has already been madePayment has already been madePayment has already been madePayment has already been made

Goods have not been receivedGoods have not been receivedGoods have not been receivedGoods have not been received

The goods have been returnedThe goods have been returnedThe goods have been returnedThe goods have been returned

Clerical errors and disputed accountsClerical errors and disputed accountsClerical errors and disputed accountsClerical errors and disputed accounts


Drawing ConclusionsDrawing Conclusions

Reevaluate internal control.Reevaluate internal control.Reevaluate internal control.Reevaluate internal control.

Evaluate the qualitative nature ofEvaluate the qualitative nature ofmisstatements.misstatements.

Evaluate the qualitative nature ofEvaluate the qualitative nature ofmisstatements.misstatements.

Determine whether sufficient evidenceDetermine whether sufficient evidencewas obtained.was obtained.

Determine whether sufficient evidenceDetermine whether sufficient evidencewas obtained.was obtained.



Design audit procedures for theDesign audit procedures for the

audit of accounts receivable,audit of accounts receivable,

using an evidence planningusing an evidence planning

worksheet as a guide.worksheet as a guide.


Source of Each Row in the Source of Each Row in the Evidence Planning WorksheetEvidence Planning Worksheet

Tolerable misstatementTolerable misstatement Acceptable audit riskAcceptable audit risk Inherent riskInherent risk Control riskControl risk Substantive tests ofSubstantive tests of transactions resultstransactions results Analytical proceduresAnalytical procedures Planned detection risk andPlanned detection risk and planned audit evidenceplanned audit evidence

Tolerable misstatementTolerable misstatement Acceptable audit riskAcceptable audit risk Inherent riskInherent risk Control riskControl risk Substantive tests ofSubstantive tests of transactions resultstransactions results Analytical proceduresAnalytical procedures Planned detection risk andPlanned detection risk and planned audit evidenceplanned audit evidence


End of Chapter 16End of Chapter 16

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