Download - Audit of the Sales and Collection Cycle

©2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 13 - 1

Audit of the Sales andCollection Cycle

Chapter 14


Learning Objective 1

Identify the accounts and the

classes of transactions in the

sales and collection cycle.


Accounts in the Salesand Collection Cycle

SalesCashsales

Sales onaccount

Cash in Bank

Cash DiscountsTaken

Sales Returnsand Allowances

Bad DebtExpense

Accounts ReceivableBeginning Cash receiptsbalance

Sales returnsSales on and allowancesaccount

Endingbalance


Accounts in the Salesand Collection Cycle

Accounts ReceivableBeginning Cash receiptsbalance

Sales returnsSales on and allowancesaccount

Charge-off ofEnding uncollectiblebalance accounts Bad Debt

Expense

Allowance for Uncollectible AccountsCharge-off of Beginninguncollectible balanceaccounts

Estimate of baddebt expense

Ending balance



Describe the business functions

and the related documents and

records in the sales and

collection cycle.


Processing Customer Orders

Customer/Purchase Order:A request for merchandise

by a customer

Sales Order: A document describing the

goods ordered by a customerCredit check and

Authorization to ship


Granting Credit

Before goods are shipped, a properlyauthorized person (system) must approve credit

to the customer for sales on account.Access controls


Sales Transaction

Accounts

BusinessFunctions

Documentsand Records

Sales (credit)Accounts receivable (debit) esp. B2B/Big Ticket

Processing customer orders,Granting credit, Shipping goods,Billing customers and recording sales (j/e)

PO,SO, Shipping Document, Sales invoice (bill), Sales journal or listing, Accounts receivableMaster file/sub ledger (confirmation), Monthly statements sent to customers


Cash Receipts Transaction

Accounts

BusinessFunctions


Cash in bank (debit: form = check, EFT, credit card, etc.); Accounts receivable (credit)OR B2C: dr. cash, cr. sales

Processing and recording cash receiptsSeparation of duties key!

Remittance advise, Prelisting of cash receiptsSeparateCash receipts journal or listing, Bank rec,and A/R records


Sales Returns and Allowances Transaction

Accounts

BusinessFunctions


Sales returns and allowances (debit–contra sales)Accounts receivable (credit)

Processing and recordingsales returns and allowances

Credit memo – put inv. back and credit customerSeparateSales returns and allowances journal, A/R files


Bad Debt ExpenseTransaction

Accounts

BusinessFunctions


Bad debt expense (debit-contra sales)Allowance for uncollectible accounts(cr. contra A/R) – Estimate! Matching Princ.Providing for bad debts – Authorization andreview,Separate from handling of cash!

General journal - Adjustment


Charge-off of Uncollectible Accounts Transaction

Accounts

BusinessFunctions


Accounts receivable (credit)Allowance for uncollectible accounts (debit)No I/S effect – for known uncollectibles

Charging off uncollectibleaccounts receivable – Authorization, Doc., Separation from cash handling

Uncollectible account authorization formA/R master files and G/L



Understand internal control,

and design and perform tests

of controls and substantive

tests of transactions for sales.


Methodology for Designing Controlsand Substantive Tests: Sales

Understand internalcontrol – sales

Assess plannedcontrol risk – sales

Evaluate cost-benefitof testing controls.

Design tests of controlsand substantive tests

of transactions for salesto meet transaction-

related audit objectives.

Audit procedures/StaffingSample size/Budget

Items to selectTiming


Understanding InternalControl – Sales

Study the client’s flowcharts,prepare an internal control

questionnaire/matrix, and performwalk-through of sales.


Preliminarily Assess Control Risk – Sales

Adequate separationof duties

Proper authorization (C1)Adequate documents

and records (C2) PrenumberedDocuments (C5)

Monthly statements (C9) Internal verification

procedures (C6)See p. 452 (col 2) for

listing of controls!


Control Risk below MAX?

Evaluate cost-benefitof testing controls.

Design tests ofcontrols for sales.See p. 452 (col 3)!


Transaction-Related AuditObjectives for Sales

Why are we going over Occurrence and Accuracy?Is there a method to my madness?????????

Accuracy (let’s go over I/C and ToT): :Recorded sales are for the amount shipped.

Completeness:Existing sales transactions are recorded.

Occurrence (let’s go over I/C and ToT):Recorded sales are for shipments actually made.


Direction of Tests for Sales

Customerorder

Shippingdocument

Duplicatesales invoice

Salesjournal

Generalledger

Accountsreceivablemaster file

=

Completeness Start

Occurrence Start


Design Substantive Testsof Transactions for Sales

Classification:Sales transactions are properly classified.

Timing:Sales are recorded on the correct dates.

Posting and summarization:Sales transactions are properly includedin the accounts receivable master file.


Summary of Methodologyfor Sales

Table 14-2 p. 452:Column 1: Transaction-related audit objectivesColumn 2: Key internal controls (quest. and matrix)Preliminary CR – test controls or CR at max?Column 3: Test of controls – Final CR assessmentColumn 4: Weaknesses – Material? Inc. CR? SOX report? Remediate? Compensating control?Column 5: Have DR, Substantive tests of transactionsIf Prel. CR adjusted upwards for final CR– more ToT!!



Understand internal control and

design and perform tests of

controls and substantive tests

of transactions for cash receipts.


Tests of Controls and Substantive Testsof Transactions for Cash Receipts

Table 14-3 p. 461– same process as Sales! Most important:

Determine whether cash received was recorded(completeness) Sep. duties, send mthly statements,

Test to discover lapping of accounts receivable:Pocket cash and cover A/R with next cash receipt, and so on – separation, vacation, compare name, timing,

and amount on remittance to cash receipts and A/R j/e• Prepare proof of cash receipts: trace from cash

receipts journal to bank deposits, bank rec (occurrence)

Table 14-3 p. 461– same process as Sales! Most important:

Determine whether cash received was recorded(completeness) Sep. duties, send mthly statements,

Test to discover lapping of accounts receivable:Pocket cash and cover A/R with next cash receipt, and so on – separation, vacation, compare name, timing,

and amount on remittance to cash receipts and A/R j/e• Prepare proof of cash receipts: trace from cash

receipts journal to bank deposits, bank rec (occurrence)



Apply the methodology for controls

over the sales and collection cycle

to write-offs of uncollectible

accounts receivable.


Audit Tests forUncollectible Accounts-I/C and ToT

What is a major concern in testing accountscharged off as uncollectible?

Covering up cash pocketed by writing off accounts receivable that have been collected. I/Cs: Separation of duties, proper documentation and authorization. ToTs: compare write-offs to independent credit reports, look at past payment history.

Occurrence – writing off A/R accounts that have been “collected.” We will hammer completeness

and real. value in A/R testing (analysis of aging).


Effect of Results of Controls andSubstantive Tests of

TransactionsIn summary, the parts of the audit most affected by the tests (I/C and ToT) for the sales and collection cycle are:

AccountsReceivable – less confirms?

Cash – smaller sampleFor Dep. In-transit?

Bad debtExpense – bigger AP

Threshold?

Allowance fordoubtful accounts – bigger AP threshold?

Sales – only AP?


Role of all Audit Tests in the Sales and Collection Cycle

SalesAccounts

ReceivableCash inBank

Salestransactions

Cash receiptstransactions

Endingbalance

Endingbalance

TOC + STOT + AP + TDB= Sufficient competent evidence per GAAS

Audited byTOC, STOT

Audited by AP and TDB

Audited byTOC, STOT

Audited by AP and TDB

Endingbalance


End of Chapter 14