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Chapter 9: Auditing the Revenue Cycle. IT Auditing & Assurance, 2e, Hall & Singleton. MANUAL PROCEDURES. Follow Figure 9-1 Obtaining & recording customers’ orders Document = SALES ORDER [Figure 9-2] One copy in “Open Order File” Approving credit

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chapter 9 auditing the revenue cycle

Chapter 9:Auditing the Revenue Cycle

IT Auditing & Assurance, 2e, Hall & Singleton

IT Auditing & Assurance, 2e, Hall & Singleton

manual procedures
MANUAL PROCEDURES
  • Follow Figure 9-1
  • Obtaining & recording customers’ orders
    • Document = SALES ORDER [Figure 9-2]
    • One copy in “Open Order File”
  • Approving credit
    • One copy of sales order went to credit dept.
    • Returned authorized copy triggers release of sales order into system

IT Auditing & Assurance, 2e, Hall & Singleton

manual procedures3
MANUAL PROCEDURES
  • Processing shipping orders
    • 4 copies of Sales Order to warehouse; packing slip, shipping notice, stock release, file copy
    • Locate and “pick” goods using Stock Release; package them with packing slip
    • Reconcile documents and goods, sign Shipping Notice, prepare Bill of Lading – multiple copies [Figure 9-3]
    • Transfer custody of goods (packing slip inside) and 2 copies of Bill of Lading to carrier
    • Record shipment in shipping log
    • Send shipping notice to Billing Dept.
    • File: Stock Release, 1 BOL, File Copy

IT Auditing & Assurance, 2e, Hall & Singleton

legacy system procedures
LEGACY SYSTEM PROCEDURES
  • Keypunch batch of shipping notices
  • Edit run program, correct any errors
    • Field checks
    • Limit tests
    • Range tests
    • Price times quantity extensions
  • Sort run on batches by AR account number
    • Legacy systems store records in sequential manner, usually tape
    • Next process is to “post” individual shipping notices to appropriate individual AR accounts
  • AR update & billing run[Figure 9-4]

Updates AR file becomes new AR file

    • Billing would be printing invoices to be mailed
    • Sales journal file or printout
    • Journal voucher for AR [DR] and sales [CR]

IT Auditing & Assurance, 2e, Hall & Singleton

legacy system procedures5
LEGACY SYSTEM PROCEDURES
  • Re-sort by inventory item {why?}
    • Same reason; but this process is to update Inventory Items
  • Inventory update run [Figure 9-5]
    • Reduce quantity on hand for items shipped, generate a new Inventory file
    • Compare “On Hand” quantity with “Reorder Point” to identify items needing replenishment; file or printout
    • Journal voucher for Cost of Goods Sold [DR] and Inventory [CR]
  • Sort journal entries by GL #
  • Run general ledger update
  • Management reports

IT Auditing & Assurance, 2e, Hall & Singleton

batch cash receipts systems with direct access files
BATCH CASH RECEIPTS SYSTEMS WITH DIRECT ACCESS FILES
  • See Figure 9-6
  • Discrete events that naturally fit the batch approach
  • Update Procedures
    • Mail Room
      • Receives checks and Remittance Advices.
      • Separates checks from Remittance Advices
      • Prepares a Remittance List – multiple copies
      • Copy of Remittance List and checks go to Cash Receipts Dept.
      • Remittance Advices and copy of Remittance List go to AR Dept.
      • Last copy of Remittance List to Controller’s Office

IT Auditing & Assurance, 2e, Hall & Singleton

batch cash receipts systems with direct access files7
BATCH CASH RECEIPTS SYSTEMS WITH DIRECT ACCESS FILES
  • Cash receipts dept.
    • Reconciles checks and remittance list
    • Prepares deposit slip – multiple copies
    • Using terminal/IS, creates a journal voucher of cash received; Cash [DR] and AR [CR]
    • End of day, deposit cash and Deposit slips to the bank
    • File copy of deposit slip

IT Auditing & Assurance, 2e, Hall & Singleton

batch cash receipts systems with direct access files8
BATCH CASH RECEIPTS SYSTEMS WITH DIRECT ACCESS FILES
  • AR Dept.
    • Reconciles remittance advices and remittance list
    • Prepares batch for transactions based on remittance advice data to update AR subsidiary ledger
    • Files remittance advices and remittance list

IT Auditing & Assurance, 2e, Hall & Singleton

batch cash receipts systems with direct access files9
BATCH CASH RECEIPTS SYSTEMS WITH DIRECT ACCESS FILES
  • DP Dept.
    • Accesses the two files created in cash receipts (journal voucher) and AR (batch transaction file of CR)
    • Reconciles the files
    • Updates AR-SUB accounts
    • Updates GL (AR, Cash)
    • Creates a cash receipts journal
    • System produces transaction listing that is sent to AR dept. where AR clerk will reconcile against the remittance list of file there
    • More management reports

IT Auditing & Assurance, 2e, Hall & Singleton

real time sales order entry and cash receipts
REAL-TIME SALES ORDER ENTRY AND CASH RECEIPTS
  • See Figure 9-7
  • Sales procedures
    • Transactions are processed as they occur, separately
    • Credit check is performed online by the system
    • If approved, system checks availability of inventory
    • If available, system:
      • Transmits electronic stock release to warehouse dept
      • Transmits electronic packing slip to shipping dept
      • Updates inventory file records for depletion
      • Records sale in open sales order computer file

IT Auditing & Assurance, 2e, Hall & Singleton

real time sales order entry and cash receipts11
REAL-TIME SALES ORDER ENTRY AND CASH RECEIPTS
  • Warehouse procedures
    • Produces hard copy of stock release
    • Clerk picks goods, sends them with a copy of stock release to shipping dept.
  • Shipping procedures
    • Reconciles goods, stock release, packing slip from system.
    • Online, IS prepares Bill of Lading for shipment, and shipping notice for DP Dept.
    • Select carrier and prepare goods for shipment, along with packing slip and Bill of Lading
    • Stock release form is filed

IT Auditing & Assurance, 2e, Hall & Singleton

real time sales order entry and cash receipts12
REAL-TIME SALES ORDER ENTRY AND CASH RECEIPTS
  • Billing procedures
    • Record sales invoice and shipment in IS
    • Print invoice to be sent to customer
    • Update shipping log and sale invoice files
    • Delete shipment from open sales order file
  • Cash receipts procedures
    • Keypunch cash receipts using the remittance advice into IS,matching it with the specific record in the sales invoice file
    • Keypunch any credit memos using similar process
    • Generate a remittance file of posted transactions

IT Auditing & Assurance, 2e, Hall & Singleton

features of real time processing
FEATURES OF REAL-TIME PROCESSING
  • Events Database
    • Traditional accounting does not have to exist in per se (in traditional form)
    • General Ledger can be derived at any time from a compilation from the events database
  • Advantages
    • Greatly shortens the cash cycle of the firm
    • Can give a firm a competitive advantage (e.g., managing inventory better)
    • Real-time editing permits the identification of many kinds of errors as they occur, greatly reducing the efficiency and effectiveness of business processes
    • Reduces the amount of paper documents
    • Electronic audit trails are possible in real-time computer-based systems

IT Auditing & Assurance, 2e, Hall & Singleton

management assertions and revenue cycle audit objectives
MANAGEMENT ASSERTIONS AND REVENUE CYCLE AUDIT OBJECTIVES
  • Existence / Occurrence
    • VERIFY AR balance represents amounts actually owed as of Balance Sheet date
    • Establish sales represents goods shipped and/or services rendered during period of financials
  • Completeness
    • Determine all amounts owed organization are included in AR
    • VERIFYshipped goods, services rendered, and/or returns and allowances for period are included in financials
  • Accuracy
    • VERIFY revenue transactions are accurately computed, based on correct prices and quantities
    • EnsureAR subsidiary ledger, sales invoice file, remittance file are mathematically correct .. And agree with GL accounts
  • Rights & Obligations
    • Determineorganization has legal right to AR
    • VERIFY accounts sold or factored have been removed from AR
  • Valuation or Allocation
    • Determine AR balance stated in net realizable value
    • Establishallocation for uncollectible accounts is appropriate
  • Presentation and Disclosure
    • VERIFYAR and revenues for period are properly described and classified

IT Auditing & Assurance, 2e, Hall & Singleton

input controls
INPUT CONTROLS
  • Purpose
    • Ensure creditworthiness of customers
    • Control techniques vary considerably between batch systems and real-time systems
    • Credit authorization procedures
      • Credit worthiness of customer
      • Batch and manual systems use credit dept.
      • Real-time systems use programmed decision rules
    • Testing credit procedures
      • Verifyeffective procedures exist
      • Verifyinformation is adequately communicated
      • Verifyeffectiveness of programmed decision rules (test data, ITF)
      • Verifythat authority for making credit decisions is limited to authorized credit personnel/procedures
      • PerformSubstantive Tests of Detail
      • Reviewcredit policy periodically and revise as necessary

IT Auditing & Assurance, 2e, Hall & Singleton

input controls16
INPUT CONTROLS
  • Data Validation Controls
    • To detect transcription errors in data as it is processed
      • Batch: after shipment of goods
        • Error logs
        • Error correction computer processes
        • Transaction resubmission procedures
      • Real-Time: Errors handled as they occur
    • Missing data checks – presence of blank fields
    • Numeric-Alphabetic data checks – correct form of data
    • Limit checks – value does not exceed max for the field
    • Range checks – data is within upper and lower limits
    • Validity checks – compare actual values against known acceptable values
    • Check digit – identify keystroke errors by testing internal validity
  • Testing Data Validation Controls
    • Verify controls exist and are functioning effectively
    • Validation of program logic can be difficult
      • If Controls over system development and maintenance are NOT weak, testing data editing/programming logic more efficient than substantive tests of details (test data, ITF)
      • Some assurance can be gained through the testing of error lists and error logs (detected errors only)

IT Auditing & Assurance, 2e, Hall & Singleton

input controls17
INPUT CONTROLS
  • Batch controls
    • Manage high volumes of similar transactions
    • Purpose: Reconcile output produced by system with the original input
    • Controls continue through all computer (data) processes
    • Batch transmittal sheet:
      • Unique batch number
      • Batch date
      • Transaction code
      • Record count
      • Batch control total (amount)
      • Hast totals (e.g., account numbers)
  • Testing data validation controls
    • Failures of batch controls indicates data errors
    • Involves reviewing transmittal records of batches processed and reconcile them to the batch control log (batch transmittal sheet)
    • Examine out-of-balance conditions and other errors to determine cause of error
    • Review and reconcile transaction listings, error logs, etc.

IT Auditing & Assurance, 2e, Hall & Singleton

process controls
PROCESS CONTROLS
  • Computerized procedures for file updating
  • Restricting access to data
  • Techniques:
    • File update controls -- Run-to-run batch control data to monitor data processing steps
    • Transaction code controls – to process different transactions using different programming logic (e.g., transaction types)
    • Sequence check controls – sequential files, proper sorting of transaction files required
    • Testing file update controls – results in errors
      • Testing data that contains errors (incorrect transaction codes, out of sequence)
      • Can be performed in ITF or test data
      • CAATTs requires careful planning
      • Single audit procedure can be devised that performs all tests in one operation.

IT Auditing & Assurance, 2e, Hall & Singleton

access controls
ACCESS CONTROLS
  • Prevent and detect unauthorized and illegal access to firm’s systems and/or assets
    • Warehouse security
    • Depositing cash daily
    • Use safe deposit box, night box, lock cash drawers and safes
    • Accounting records
      • Removal of an account from books
      • Unauthorized shipments of goods using blank sales orders
      • Removal of cash, covered by adjustments to cash account
      • Theft of products/inventory, covered by adjustments to inventory or cash accounts
    • Testing access controls – heart of accounting information integrity
      • Absence thereof allows manipulation of invoices (i.e., fraud)
      • Access controls are system-wide and application-specific
      • Access controls are dependent on effective controls in O/S, networks, and databases

IT Auditing & Assurance, 2e, Hall & Singleton

physical controls
PHYSICAL CONTROLS
  • Segregation of duties
    • Rule 1: Transaction authorization separate from transaction processing
    • Rule 2: Asset custody separate from record-keeping tasks
    • Rule 3: Organization structured such that fraud requires collusion between two or more people
  • Supervision
    • Necessary for employees who perform incompatible functions
    • Compensates for inherent exposure from incompatible functions
    • Can be supplement when duties are properly segregated
    • Prevention vs. detection of fraud and crime is objective: supervision can be effective preventive control

IT Auditing & Assurance, 2e, Hall & Singleton

physical controls21
PHYSICAL CONTROLS
  • Independent verification
    • Review the work of others at critical points in business processes
    • Purpose: Identify errors or possible fraud
    • Examples:
      • Shipping dept. verifies goods sent from warehouse dept. are correct in type and quantity
      • Billing dept. reconciles shipping notice with sales notice to ensure customers billed correctly
  • Testing physical controls
    • Review organizational structure for incompatible tasks
    • Tasks normally segregated in manual systems get consolidated in DP systems.
    • Duties of design, maintenance, and operations for computers need to be separated
    • Programmers should not be responsible for subsequent program changes.

IT Auditing & Assurance, 2e, Hall & Singleton

output controls
OUTPUT CONTROLS
  • PURPOSE:Information is not lost, misdirected, or corrupted; that the system output processes function properly
  • Controls are designed to identify potential problems
    • Reconciling GL to subsidiary ledgers
    • Maintenance of the audit trail – that is the primary way to trace the source of detected errors
      • Details of transactions processed at intermediate points
      • AR change report
      • Transaction logs: permanent record of valid transactions
      • Transaction listings – successfully posted transactions
      • Log of automatic transactions
      • Unique transaction identifiers
      • Error listings
  • Testing output controls
    • Reviewing summary reports for accuracy, completeness,timeliness, and relevance for decisions
    • Trace sample transactions through audit trails; including transaction listings, error logs, and logs of resubmitted records
    • ACL is very helpful in this process

IT Auditing & Assurance, 2e, Hall & Singleton

substantive tests of revenue cycle accounts
SUBSTANTIVE TESTS OF REVENUE CYCLE ACCOUNTS
  • PURPOSE:Determine the nature, timing, and extent of substantive tests using auditor’s assessment of inherent risk, unmitigated control risk, materiality considerations, and efficiency of the audit.
  • Concern: Overstatement or understatement of revenues?
    • Focus on large and unusual transactions, especially near period-end
    • Recognizing revenues from sales that did not occur
    • Recognizing revenues BEFORE they are realized
    • Failing to recognize cutoff points
    • Underestimating allowance for doubtful accounts
    • Shipping unsolicited products to customers, subsequently returned
    • Billings customers for products held by seller
    • Tests of controls and substantive tests
      • Credit limit logic may be effective but cut-off of AR may be error
      • Substantive testing of AR may give assurance about accuracy of total AR but does not offer assurance about collectibility

IT Auditing & Assurance, 2e, Hall & Singleton

substantive tests of revenue cycle accounts24
SUBSTANTIVE TESTS OF REVENUE CYCLE ACCOUNTS
  • Understanding data
    • VERIFY data used in CAATTs (e.g., ACL) is accurate
    • VERIFY adequate setup of files from originals (e.g., ACL and Profilecommand)
    • Relationships and data from [see Figure 9-10]:
      • Customer file
      • Sales Invoice file
      • Line item file
      • Inventory file
      • Shipping log file
    • File preparation procedures

IT Auditing & Assurance, 2e, Hall & Singleton

substantive tests of revenue cycle accounts25
SUBSTANTIVE TESTS OF REVENUE CYCLE ACCOUNTS
  • Accuracy/completeness assertion
    • Analytical review of account balances
      • Overall perspective for trends in sales, cash receipts, sales returns, and AR
      • Provides first-level assurance that amounts are reasonably stated and reasonably complete
      • If so, may reduce the extent of substantive testing
    • Review sales invoices for unusual trends and exceptions
      • Scanning data files using CAAT (e.g., ACL and stratify and possibly filters - see Figure 9-11)
        • Reveals all errors or raises questions?

IT Auditing & Assurance, 2e, Hall & Singleton

substantive tests of revenue cycle accounts26
SUBSTANTIVE TESTS OF REVENUE CYCLE ACCOUNTS
  • Accuracy/completeness assertion
    • Review sales invoice and shipping log files
      • Missing and duplicate transactions [see Table 9-2]
      • Questions/survey:
        • Are procedures in place to document and approve voided invoices?
        • How are gaps in sales invoice numbers communicated to management?
        • What physical controls exist over access to sales invoice source documents?
        • If applicable, are batch totals used to control batch transactions during each processing step?
        • Are transaction listings reconciled and reviewed by management?
    • Review line item and inventory files for pricing accuracy
      • ACL allows auditor to compare prices on invoices with inventory – using JOIN [see example on page 413]
      • Testing unmatched records (complement)

IT Auditing & Assurance, 2e, Hall & Singleton

substantive tests of revenue cycle accounts27
SUBSTANTIVE TESTS OF REVENUE CYCLE ACCOUNTS
  • Existence assertion
    • Confirmation of AR – SAS #67
      • Not required if:
        • AR is immaterial
        • Assessed Control Risk is low
        • Confirmation process will be ineffective
      • CAATTs to use for this function?
        • Steps:
        • Select accounts to confirm
        • Consolidate invoices (not AR subsidiary) using CLASSIFY (filter) and SUMMARIZE (amount) [see Tables 9-3 and 9-4]
        • Why?
        • JOIN the CUSTOMER file with the new consolidated invoice file
      • Prepare confirmation requests [see Figure 9-12]
        • Positive and Negative Confirmations (ACL, EXPORT)
      • Evaluating and controlling responses
        • Retain custody of the confirmation letters until mailed
        • The letters should be addressed to the auditor, not client org.
        • The replies should be mailed to the auditor, not client org.
        • Discrepancies should be investigated.
        • Non responses to POSITIVE confirmation should be investigated

IT Auditing & Assurance, 2e, Hall & Singleton

substantive tests of revenue cycle accounts28
SUBSTANTIVE TESTS OF REVENUE CYCLE ACCOUNTS
  • Valuation/allocation assertion
    • Corroborate or refute AR is stated at reasonable Net Realizable Value
      • AGING AR
        • ACL, AGE [see Table 9-7]
      • Is allowance for doubtful accounts reasonable compared to prior years and based on composition of AR portfolio
        • Confirmation process will be ineffective
      • Review past-due balances
        • Conference with credit manager to determine collectibility
        • Determine if methods used to estimate allowance for doubtful accounts is adequate, not the collectibility of each account
        • Determine if overall allowance is, therefore, reasonable

IT Auditing & Assurance, 2e, Hall & Singleton

chapter 9 auditing the revenue cycle29

Chapter 9:Auditing the Revenue Cycle

IT Auditing & Assurance, 2e, Hall & Singleton

IT Auditing & Assurance, 2e, Hall & Singleton

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