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16 COMPLETING THE TESTS IN THE SALES AND COLLECTION CYCLE: ACCOUNTS RECEIVABLE When More Isn’t Better METHODOLOGY FOR DESIGNING TESTS OF DETAILS OF BALANCES In designing tests of details of balances for accounts receivable, it is

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16

COMPLETING THE TESTS

IN THE SALES AND

COLLECTION CYCLE: ACCOUNTS RECEIVABLE

When More Isn’t Better


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METHODOLOGY FOR DESIGNING

TESTS OF DETAILS OF BALANCES

In designing tests of details of balances for accounts receivable, it is

essential to satisfy each of the nine balances-related audit objectives

first discussed in Chapter 6.

1. Detail tie-in

2. Existence

3. Completeness

4. Accuracy

5. Classification

6. Cutoff

7. Realizable value

8. Rights

9. Presentation

and disclosure


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Phase I

Set tolerable misstatement

and assess inherent risk

for accounts receivable

Assess control risk

for sales and

collection cycle


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Phase II

Design and perform tests

of controls and substantive

tests of transactions for the

sales and collection cycle


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Phase III

Design and perform analytical procedures for accounts receivable balance

Design tests of

details of accounts

receivable balance

to satisfy balance-

related audit objectives

Audit procedures

Sample size

Items to select

Timing


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Designing Tests of

Details of Balances

Aged Trial Balance

Recorded Accounts Receivable Exist

Existing Accounts Receivable Are Included

Accounts Receivable Are Accurate

Accounts Receivable Are Properly Classified

Cutoff for Accounts Receivable Is Correct

Accounts Receivable Is Stated at Realizable Value

Accounts Receivable Presentation and Disclosures Are Proper


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Confirmation of Accounts Receivable

AICPA Requirements

1. Accounts receivable are immaterial.

2. The auditor considers confirmations ineffective evidence

because response rates will likely be inadequate or

unreliable.

3. The combined level of inherent risk and control risk is

low and other substantive evidence can be accumulated

to provide sufficient evidence.


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FIGURE 15 - 1

METHODOLOGY FOR

DESIGNING TESTs OF

DETAILS OF BALANCE

FOR ACCOUNTS

RECEIVABLE


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FIGURE 15 -2

Relationship between

Transaction-Related

Audit Objectives for the

Sales and Collection Cycle

and Balance-

Related Audit Objectives

for Accounts receivable


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Confirmation Decisions

Types of Confirmation

Positive confirmation

Blank confirmation form

Invoice confirmation

Negative confirmation


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TIMING

The most reliable evidence

from confirmations is obtained

when they are sent as close to the

balance sheet date as possible, as opposed

to confirming the accounts several months

before yearend.


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Sample Size

Fall into several categories and include the following:

  • Tolerable misstatement

  • Inherent risk (relative size of total accounts

    receivable, number of accounts, prior year

    results, and expected misstatements)

  • Control risk

  • Achieved detection risk from other substantive

    test (extent and results of substantive tests of

    transactions, analytical procedures, and

    other tests of details)

  • Type of confirmation (negatives normally require a

    larger sample size)


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Selection of the Items for Testing

When selecting a sample of accounts receivable for

confirmation, the auditor should be careful to avoid

being influenced by the client. If a client tries to

discourage the auditor from sending confirmation to

certain customers, the auditor should consider the

possibility that the client is attempting to conceal

fictitious or known misstatements

of accounts receivable.


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Subsequent Cash Receipts

Evidence of the receipt of cash subsequent to the

confirmation date includes examining remittance

advices, entries in the cash receipts records, or

perhaps even subsequent credits in the accounts

receivable master files.


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Duplicate Sales Invoices

These are useful in verifying

the actual issuance of a sales

invoice and the actual date of

the billing.

Shipping Documents

These are important in establishing

whether the shipment was actually

made and as a test of cutoff.

Correspondence with the Client

Usually, the auditor does not need to review correspondence

as a part of alternative procedures, but correspondence can

be used to disclose disputed and questionable receivables

not uncovered by other means.


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Analysis of Differences

Payment Has Already Been Made

Goods Have Not Been Received

The Goods Have Been Returned

Clerical Errors and Disputed Accounts


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ESSENTIAL TERMS

Accounts receivable

balance-related audit objectives

Aged trial balance

Alternative procedures

Blank confirmation form

Cutoff misstatement

Invoice confirmation

Negative confirmation

Positive confirmation

Realizable value of accounts receivable

Timing difference


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Aged Trial Balance for

Hillsburg Hardware Co.

  • FIGURE 15 - 3


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FIGURE 15 - 1

Analytical Procedures

for the Sales and

Collection Cycle


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Analysis

of Allowance

for Uncollectible

Accounts for

Hillsburg Hardware Co.

FIGURE 15 -4




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