Chapter 14 Audit of the Sales and Collection Cycle: Tests of Control and Substantive Tests of Transactions Copyright © 2014 Pearson Education Identify the accounts and the classes of transactions in the sales and collection cycle. Describe the business functions and the related documents and records in the sales and collection cycle. Understand internal control, and design and perform tests of controls and substantive tests of transactions for sales. 14-2 Copyright © 2014 Pearson Education Apply the methodology for controls over sales transactions to controls over sales returns and allowances. Understand internal control, and design and perform tests of controls and substantive tests of transactions for cash receipts. Apply the methodology for controls over the sales and collection cycle to write-offs of uncollectible accounts receivable. 14-3 Copyright © 2014 Pearson Education 1 Identify the accounts and the classes of transactions in the sales and collection cycle. 14-4 Copyright © 2014 Pearson Education 14-5 Copyright © 2014 Pearson Education 2 Describe the business functions and the related documents and records in the sales and collection cycle. 14-6 Copyright © 2014 Pearson Education Accounts Sales Accounts receivable 14-7 Business Functions Documents and Records Processing customer orders Granting credit Shipping goods Billing customers and recording sales Customer order Sales order Customer order or sales order Shipping document Sales invoice Sales transaction file Sales journal or listing Accounts receivable master file Accounts receivable trial balance Monthly statements Copyright © 2014 Pearson Education Accounts Cash in bank (debits from cash receipts) Accounts receivable 14-8 Business Functions Documents and Records Processing and recording cash receipts Remittance advice Prelisting of cash receipts Cash receipts transaction file Cash receipts journal or listing Copyright © 2014 Pearson Education Accounts Sales returns and allowances Accounts receivable 14-9 Business Functions Documents and Records Processing and recording sales returns and allowances Credit memo Sales and returns and allowances journal Copyright © 2014 Pearson Education Accounts Accounts receivable Allowance for uncollectible accounts 14-10 Business Functions Documents and Records Writing off uncollectible accounts receivable Uncollectible account authorization form General journal Copyright © 2014 Pearson Education Accounts Bad debt expense Allowance for uncollectible accounts Business Functions Documents and Records Providing for bad debts General journal 14-11 Copyright © 2014 Pearson Education Customer Order: A request for merchandise by a customer Sales Order: A document describing the goods ordered by a customer 14-12 Copyright © 2014 Pearson Education Before goods are shipped, a properly authorized person must approve credit to the customer for sales on account 14-13 Copyright © 2014 Pearson Education This is the first point in the cycle at which the company gives up assets. One type of shipping document is a bill of lading. Bills of lading are often transmitted once goods have been shipped 14-14 Copyright © 2014 Pearson Education Sales transaction file Accounts receivable file 14-15 Sales journal Accounts receivable trial balance Copyright © 2014 Pearson Education Prelisting of Cash receipts Cash receipts transaction file 14-16 Copyright © 2014 Pearson Education Credit memo Sales returns and allowances journal 14-17 Copyright © 2014 Pearson Education Uncollectible account authorization form This is a document used internally to indicate authority to write an account receivable off as uncollectible 14-18 Copyright © 2014 Pearson Education This provision represents a residual, resulting from management’s end-of-period adjustment of the allowance for uncollectible accounts 14-19 Copyright © 2014 Pearson Education 3 Understand internal control, and design and perform tests of controls and substantive tests of transactions for sales. 14-20 Copyright © 2014 Pearson Education Understand internal control – sales Assess planned control risk – sales Determine extent of testing controls Audit procedures Design tests of controls and Sample size substantive tests of transactions for sales to meet transactionItems to select related audit objectives Timing 14-21 Copyright © 2014 Pearson Education Study the client’s flowcharts, prepare an internal control questionnaire, and perform walk-through tests of sales. 14-22 Copyright © 2014 Pearson Education 1. Framework for assessing control risk 2. Identify key internal controls and deficiencies 3. Associate controls and deficiencies with the objectives 4. Assess control risk for each objective 14-23 Copyright © 2014 Pearson Education Adequate separation of duties Proper authorization Adequate documents and records Pre-numbered documents Monthly statements Internal verification procedures 14-24 Copyright © 2014 Pearson Education Control effectiveness Control risk 14-25 Copyright © 2014 Pearson Education 14-26 Copyright © 2014 Pearson Education Occurrence: Recorded sales are for shipments actually made. Completeness: Existing sales transactions are recorded. Accuracy: Recorded sales are for the amount shipped. 14-27 Copyright © 2014 Pearson Education Posting and summarization: Sales transactions are correctly included in the accounts receivable master file. Classification: Sales transactions are correctly classified. Timing: Sales are recorded on the correct dates. 14-28 Copyright © 2014 Pearson Education Sham sales Improper % of completion Improper sales cutoff Fraudulent Techniques Premature revenue recognition Unauthorized shipments Bill and hold Conditional sales Round-tripping loans as sales 14-29 Consignment sales Copyright © 2014 Pearson Education Identify key transaction-related audit objectives Determine key existing controls Design tests of controls to verify effectiveness Evaluate any control deficiencies Determine extent of substantive tests of transactions 14-30 Copyright © 2014 Pearson Education 4 Apply the methodology for controls over sales transactions to controls over sales returns and allowances. 14-31 Copyright © 2014 Pearson Education The transaction-related audit objectives and client’s methods of controlling misstatements are essentially the same for processing credit memos as those described for sales. 14-32 Copyright © 2014 Pearson Education There are, however, two important differences: Materiality 14-33 Emphasis on objectives Copyright © 2014 Pearson Education 5 Understand internal control, and design and perform tests of controls and substantive tests of transactions for cash receipts. 14-34 Copyright © 2014 Pearson Education Determine whether cash received was recorded Prepare proof of cash receipts* Test to discover lapping of accounts receivable* 14-35 Copyright © 2014 Pearson Education 6 Apply the methodology for controls over the sales and collection cycle to write-offs of uncollectible accounts receivable. 14-36 Copyright © 2014 Pearson Education Occurrence transaction-related audit objective Proper authorization of the write-off of uncollectible accounts Verification of accounts written off 14-37 Copyright © 2014 Pearson Education The parts of the audit most affected by the tests for the sales and collection cycle are: Allowance for doubtful accounts Accounts receivable Bad debt expense Cash 14-38 Copyright © 2014 Pearson Education Sales Cash in Accounts Bank Receivable Sales Cash receipts transactions transactions Audited by TOC, STOT, and AP Ending balance Audited by TOC, STOT, and AP Ending balance Audited by AP and TDB TOC + STOT + AP + TDB = Sufficient appropriate evidence 14-39 Copyright © 2014 Pearson Education 14-40 Copyright © 2014 Pearson Education Copyright All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher. Printed in the United States of America. 14-41 Copyright © 2014 Pearson Education
