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AT.3511
Specific Audit Procedures (Part 1)
LECTURE NOTES
Financial Statement Cycles
Audits are typically performed by dividing the financial
statements into smaller segments or components. This
makes the audit more manageable and helps in assigning
of tasks to different members of the engagement team
more efficiently. Initially, each segment or component will
be audited separately, and then the results are combined in
the end. The auditor will then conclude about the financial
statements taken as a whole.
There are different ways of dividing the audit. One approach
is to treat every account balance on the financial statements
as a separate segment, however, it often results in an
inefficient audit specially for complex statements of big
companies because the interrelationship of closely related
accounts would not be taken into consideration. Another
alternative is to divide the audit to group closely related
classes of transactions and account balances that belong to
the same process or transaction cycle. The benefit of using
this approach is that it ties to the ways the transactions are
recorded in journals and summarized in the general ledger
and financial statements.
The processes or transaction cycles may vary depending on
the client’s industry. The transaction cycles examined in this
material are based on most common transaction cycles in a
medium or large trading or manufacturing entity.
1. Revenue to cash receipts (or Sales and collection cycle)
2. Purchasing to cash disbursement (Acquisition and
payment cycle)
3. Payroll and personnel cycle
4. Inventory and warehousing (Conversion cycle)
5. Capital acquisition and repayment (Investing and
Financing cycle)
All general ledger accounts and journal transactions of an
entity are included in the transaction cycles above at least
once. However, some accounts or transactions may appear
in more than one transaction cycle, indicating
interrelationship among those cycles. One example is the
general cash account which encompasses almost all of the
cycles above except inventory and warehousing. Thus, the
general cash account is considered the most important
general ledger account that connects most transaction
cycles.
For Part 1, we will cover Sales and Collection Cycle and
Acquisition and Payment Cycle.
Revenue and Receipt Cycle (or Sales and Collection
Cycle)
Business Process
1. Customer orders goods from the entity through variety
of channels (such as the customer filling out the sales
order physically or through the entity’s e-commerce
platforms, orders via telephone or email, or by providing
their own purchase order to the entity).
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SOLIMAN/UY/AGUILA/RICAFRENTE
October 2023
2. The entity’s sales personnel will process the customer
order by preparing the corresponding sales orders.
3. The sale is approved by the credit department (this can
be done manually or electronically such as maintaining
a pre-approved credit limit for the customer.)
4. The goods are then shipped to the customer.
5. The billing department prepares a sales invoice (a copy
of which becomes the customer’s “bill”). After the sales
invoice is prepared, the sales journal, the general
ledger, and the accounts receivable subsidiary ledger
are posted.
6. The customer typically pays the account with a check,
and a remittance advice is enclosed to describe which
invoice the check is paying. As a preventive control, two
individuals open the mail that includes these customer
remittances. Cash receipt may also be made using a
variety of channel such as electronic funds transfer.
7. The checks are listed and sent to the cashier who
deposits them in the bank on a timely basis. Another
copy of the list of checks and the remittance advices is
sent to accounting to be used to post the cash receipts
journal, which is subsequently posted to the general and
accounts receivable subsidiary ledgers.
Typical Controls
Sales
• Credit granted by a credit department
• Sales orders and invoices prenumbered and controlled
• Sales returns are presented to receiving clerk who
prepares a receiving report which supports
prenumbered sales return credit memoranda
Accounts Receivable
• Subsidiary ledger reconciled to control ledger regularly
• Individual independent of receivable posting reviews
statements before sending to customers
• Monthly statements sent to all customers
• Write-offs approved by management official
independent of record-keeping responsibility (e.g., the
treasurer is appropriate)
Cash Receipts
• Cash receipts received in mail listed by individuals with
no record-keeping responsibility
§ Cash goes to cashier
§ Remittance advices go to accounting
• Over-the-counter cash receipts controlled (cash register
tapes)
• Cash deposited daily intact (cash expenditures for the
day should not be obtained from cash collections but
rather paid for separately through check issuance
except for small expenditures for which a petty cash
fund is set up)
• Employees handling cash are bonded (a form of
insurance to compensate the entity in case the bonded
employee commit theft or embezzlement)
• Lockbox, a post office box controlled by the company’s
bank at which cash remittances from customers are
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received. The bank collects customer remittances,
immediately credits the cash to the company’s bank
account, and forwards the remittance advices to the
company. A lockbox system is considered an extremely
effective control because company employees have no
access to cash and bank employees have no access to
the company’s accounting records.
• Bank reconciliation prepared by individuals independent
of cash receipts record-keeping
***
Answer questions no. 1 – 20.
1. What event initiates a transaction in the sales and
collection cycle?
a. Receipt of cash
b. Delivery of product to a customer
c. Identification of a new customer
d. Customer request for goods
2. Generally, when is the earliest point in the sales and
collection cycle in which revenue can be recognized?
a. When the sale is approved
b. When the credit approval process is finalized
c. When the cash is collected
d. When the goods have been shipped
3. The total of the individual account balances in the
accounts receivable subsidiary ledger should equal the:
a. total sales for the period.
b. balance of the sales account in the general ledger.
c. total sales less the total cash received for the
period.
d. balance of the accounts receivable account in the
general ledger.
4. In the accounts receivable subsidiary ledger the length
of time the account has been due can be useful to the
client and the auditor in preparing the:
a. trial balance.
b. working trial balance.
c. accounts receivable trial balance.
d. aged accounts receivable trial balance.
5. When processing and recording cash receipts, an
important fact to consider is:
a. the most important concern is depositing cash at
least twice daily.
b. the most important concern is the possibility of
theft.
c. theft can occur only after the receipts are entered
in the records.
d. it the customer fails to include a remittance advice,
the check should be returned to the customer.
6. When designing audit procedures, tracing of source
documents to the customers subsidiary ledger and
subsequently to the general ledger is done to satisfy
what assertion?
a. Valuation
b. Cutoff
c. Completeness
d. Classification
7. Which one the following procedures performed for the
billing function provides evidence for the completeness
assertion?
a. Making sure that all shipments have been billed
b. Making sure that no shipment has been billed more
than twice
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c. Making sure that each shipment is billed at the
correct amount
d. Making sure that each shipment is billed to the
proper customer
8. To test for recorded sales for which there were no actual
shipments, the auditor vouches from the:
a. bill of lading to the sales journal.
b. sales journal to the shipping documents.
c. sales journal to the accounts receivable subsidiary
ledger.
d. bill of lading to the supporting customer order and
sales order.
9. An effective procedure to test for unbilled shipments is
to trace from the:
a. sales journal to the shipping documents.
b. shipping documents to the sales journal.
c. sales journal to the accounts receivable ledger.
d. sales journal to the general ledger sales account.
10. To determine that sales are accurately recorded, the
unit prices on the duplicate sales invoices are normally
compared with:
a. the original invoices.
b. an approved master price list.
c. the amounts recorded in the sales journal for that
transaction.
d. the amounts posted to the customer's account in
the accounts receivable master file.
11. Prenumbered documents are intended to help:
Prevent duplicate
Prevent the failure to billings or recordings of
bill or record sales sales
a. Yes Yes
b. No No
c. Yes No
d. No Yes
12. When an employee who is authorized to make customer
entries in the accounts receivable subsidiary ledger,
purposefully enters cash received into the wrong
customer's account that employee may be suspected
of:
a. kiting.
b. lapping.
c. floating.
d. shorting.
13. The auditor's primary concern in performing audit
procedures of the write-off of uncollectible accounts
relates to the risk that the client writes offs customer
accounts that have already been collected. The primary
control for preventing this fraud is:
a. examining authorized credit memos.
b. examining the uncollectible account authorization
form.
c. examining debit memos.
d. examining the vouchers payable register.
14. Which of the following types of receivables would not
deserve the special attention of the auditor?
a. Accounts receivables with credit balances
b. Accounts that have been outstanding for a long time
c. Receivables from related parties
d. Each of the above would receive special attention.
15. The understatement of sales and accounts receivable is
best uncovered by:
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EXCEL PROFESSIONAL SERVICES, INC.
a. testing internal controls.
b. testing the aged accounts receivable trial balance.
c. substantive tests of transactions for shipments
made but not recorded.
d. substantive tests of transactions for bad debts.
16. Audit procedures designed to uncover credit sales made
after the client's fiscal year end that relate to the current
year being audited provide evidence for which of the
following audit objective?
a. Realizable value
b. Accuracy
c. Cutoff
d. Existence
17. The most important test of details of balances to
determine the existence of recorded accounts
receivable is:
a. tracing details of sales invoices to shipping
documents.
b. tracing the credits in accounts receivable to bank
deposits.
c. tracing sales returns entries to credit memos issued
and receiving room reports.
d. the confirmation of customers' balances.
18. Which of the following audit procedure would normally
be included in the audit plan when auditing the
allowance for doubtful accounts?
a. Send positive confirmations.
b. Inquire of the client's credit manager.
c. Send negative confirmations.
d. Examine sales invoices.
19. Confirmation of accounts receivable balances normally
provides evidence concerning the:
a. valuation of the balances.
b. rights of the balances.
c. existence of the balances.
d. completeness of the balances.
20. The most reliable evidence from confirmations is
obtained when they are sent:
a. as close to the balance sheet date as possible.
b. at various times throughout the year to different
segments of the sample, so that the entire sample
is representative of account balances scattered
throughout the year.
c. several months before the year-end, so the auditor
will have adequate time to perform alternate
procedures if they are required.
d. at various times throughout the year to the same
group in the sample, so that the sample will not
have a time bias.
***
Purchasing/Disbursement Cycle (or Acquisition and
Payment Cycle)
Business Process
1. The requesting department sends a purchase requisition
to the purchasing department.
2. The purchasing department determines the proper
quantity and vendor for the purchase and prepares a
purchase order. One copy of the purchase order is sent
to the vendor. Another copy is sent to the receiving
department to allow receiving personnel to know that
items received have been ordered; however, the copy
of the purchase order sent to receiving will not have a
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quantity of items on it so as to encourage personnel to
count the goods when they are received.
3. When the goods are received, a receiving report is
prepared by the receiving department and forwarded to
the accounting department.
4. A vendor’s invoice or “bill” is received by the accounting
department from the vendor. When the accounting
department has the purchase order, receiving report,
and vendor’s invoice, the payment is approved and then
recorded in the purchases journal since evidence exists
that the item was ordered, received, and billed.
5. A check and remittance advice is subsequently sent to
the vendor in accordance with the terms of the sale. The
purchase order, receiving report, and vendor’s invoice
are stamped paid to prevent duplicate payments.
Typical Controls
Purchases
• Prenumbered purchase orders used
• Separate purchasing department makes purchases
• Purchasing personnel independent of receiving and
recordkeeping
• Suppliers’ monthly statements compared with
recorded payables
Accounts Payable
• Accounts payable personnel independent of
purchasing, receiving, and disbursements
• Clerical accuracy of vendors’ invoices tested
• Purchase order, receiving report, and vendor’s
invoice matched
Cash Disbursements
• Prenumbered checks with a mechanical check
protector used
• Two signatures on large check amounts
• Checks signed only with appropriate support
(purchase order, receiving report, vendor’s invoice).
Treasurer signs checks and mails them
• Support for checks canceled after payment
• Voided checks mutilated, retained, and accounted
for
• Bank reconciliations prepared by individual
independent of cash disbursements recordkeeping
• Physical control of unused checks
Audit of Property, Plant and Equipment
An audit of Property, Plant, and Equipment (PPE), as part of
the acquisition cycle, focuses on evaluating the control over
the acquisition, recording, depreciation, and disposal of
these assets. This is typically part of the financial audit
conducted by an independent auditor. Since PPE is
considered as a low turnover account, auditors typically
focus on testing the controls over the PPE transactions and
test extensively the transactions (additions and disposals)
for continuing clients.
1. Test of Additions: Auditors examine the acquisitions
made during the year, determining whether the addition
has been correctly recorded in terms of cost,
classification, and date of purchase. The auditor will
verify:
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EXCEL PROFESSIONAL SERVICES, INC.
• Existence: Auditors typically physically inspect
significant additions to ensure that they exist and
that they're accurately recorded.
• Ownership/Right of use: Auditors verify the
ownership or right of use of the acquired assets
through examination of documents such as title
deeds, purchase agreements, lease contracts, and
invoices.
• Cost: Auditors will verify the cost of the acquired
assets through the examination of invoices,
contracts, and other relevant documents.
• Classification: The auditor will evaluate whether the
additions have been correctly classified as either a
capital expenditure or revenue expenditure.
• Valuation: For self-constructed assets, auditors
verify the cost accumulation process to ensure that
all relevant costs have been included.
2. Test of Disposals and Retirements: Auditors review the
disposals or retirements that occurred during the year
to ensure that they have been correctly recorded and
that the relevant assets have been removed from the
financial statements.
• Auditors verify the authorization for the disposal or
retirement of assets.
• Auditors will review the calculation of the gain or
loss on the disposal or retirement to ensure it is
correctly calculated and recorded.
• The auditors checks that the asset and its related
accumulated depreciation have been fully removed
from the financial statements.
3. Search for Unrecorded Retirements: This procedure is
designed to uncover assets that have been disposed of
or retired but have not been removed from the books.
This could involve:
• Physical Inspection: Auditors might perform a
physical inspection of the assets listed on the
company's asset ledger to determine if any of them
are no longer present.
• Reconciliation of Insurance Coverage: Auditors may
also compare the assets insured by the company to
the assets recorded on the company's books. If an
asset is not insured but is on the books, it could be
an unrecorded retirement.
• Review of Subsequent Expenditures: A review of
repair and maintenance expenses might also reveal
unrecorded retirements. If a significant repair
expense is incurred on an asset that is still recorded
on the books, this might suggest the asset has been
retired but not removed from the records.
• Review of Sales Invoices and Other Disposal
Documents: Auditors might also review sales
invoices, scrap sales, or other disposal documents
to find evidence of unrecorded retirements.
***
Answer questions no. 21 – 35:
21. What typically initiates the acquisitions and payment
cycle?
a. Issuance of a purchase requisition or request for
purchase of goods/services
b. Issuance of payment to vendor
c. Approval of a new vendor
d. Purchase requisition
22. An auditor is gathering evidence on the completeness
assertion. To do so she performs a test to verify that all
goods received by the company have been recorded
properly. The document population for this test would
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consist of all:
a. vendor invoices.
b. purchase orders.
c. receiving reports.
d. cash disbursements for accounts payables.
23. Which of the following is not an accurate statement
regarding the acquisition and payment cycle?
a. The personnel in the receiving department should
be independent of the storeroom personnel.
b. Goods received should be physically controlled from
the time of their receipt until their use or disposal.
c. Accounting records should transfer responsibility for
the goods each time they are moved.
d. The accounting department should be responsible
for receiving goods and preparing the receiving
report.
24. Which of the following is the most effective control
procedure to detect vouchers that were prepared for the
payment of goods that were not received?
a. Count goods upon receipt in storeroom.
b. Match purchase order, receiving report, and
vendor's invoice for each voucher in accounts
payable department.
c. Compare goods received with goods requisitioned in
receiving department.
d. Verify vouchers for accuracy and approval in
internal audit department.
25. Auditors are especially concerned about the ________
and ________ balance-related audit objectives because
of the potential for understatements in the account
balance.
a. completeness, cutoff
b. completeness, accuracy
c. classification, realizable value
d. classification, cutoff
26. At what point do most companies recognize liabilities in
the acquisition and payment cycle when the goods are
shipped FOB destination?
a. When the purchase order is issued
b. When the vendor acknowledges receipt of the order
c. When the goods or services are received
d. When the vendor invoice is received
27. Cutoff procedures for inventory purchased should be
designed by companies to assure the company that:
a. inventory owned by the company has been
received.
b. inventory included in the year end inventory count
has been paid.
c. inventory received before year end was recorded
before year end.
d. inventory was correctly valued at year end.
28. Ace Company pays its accounts payable 45 days after
receipt of the goods or services. In this case which audit
procedure should be used to detect any unrecorded
liabilities?
a. Examine cash disbursements for several weeks
after the balance sheet date.
b. Reconcile purchase orders to requisition orders.
c. Reconcile purchase orders to receiving reports.
d. Reconcile purchase orders to vendor invoices.
29. Vendors' statements and vendors' invoices are both
relatively reliable evidence because they:
a. come directly to the auditor without being in client's
possession.
b. originate from a third party.
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EXCEL PROFESSIONAL SERVICES, INC.

c. validate the effectiveness of the control system. 33. When auditing depreciation expense, the two major
d. are compared to and reconciled with sales invoices. concerns related to the accuracy audit objective are:
a. consistent application of depreciation method and
30. You are auditing the acquisition and payment cycle and useful lives.
note the presence of excessive recurring losses on b. consistent application of depreciation method and
retired assets. You may conclude that: classification of assets.
a. insured values are greater than book values. c. correctness of calculations and consistent
b. there are a large number of fully depreciated assets. application of depreciation policies.
c. depreciation charges may by insufficient. d. cost of the fixed asset and useful lives.
d. company has a policy of selling relatively new
assets. 34. The auditor needs to gain reasonable assurance that the
equipment accounts in the fixed asset master file are
31. Which of the following statements about the audit of not understated. Which of the following accounts would
fixed assets is the least correct? most likely be reviewed in making that determination?
a. The primary accounting record for manufacturing a. Depreciation expense
equipment and other property, plant and equipment b. Repairs and maintenance expense
is generally a fixed asset master file. c. Gains/losses on sales and retirements
b. Manufacturing equipment and current assets are d. Cash
normally audited in the same fashion regardless of
the activity within a particular account. 35. The auditor is testing for unrecorded
c. The emphasis on auditing fixed assets is on retirements/disposals of equipment. Which of the
verification of current-period acquisitions. following audit procedures would the auditor most likely
d. Failure to record the acquisition of a fixed asset use?
affects the income statement until the assets are a. Select items from the fixed asset master file and
fully depreciated. then physically locate them.
b. Examine the repairs and maintenance amount for
32. Which of the following tests are typically not necessary large debits.
when auditing a client's schedule of recorded disposals? c. Compare current years depreciation expense with
a. Footing the schedule the previous year's depreciation expense.
b. Tracing schedule totals to the general ledger d. Trace acquisition documents to the fixed asset
c. Tracing cost and accumulated depreciation of the master file.
disposals to the property master file
d. All of the above are necessary. ***End***

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