Auditing

The Revenue Cycle

Prepared by: Sartini, S.E., M.Sc., Akt

Outline
 Nature of the Revenue Cycle
 Inherent Risk Factors
 Audit objectives
 Control Activities
 Standard Substantive Tests
Nature of The Revenue Cycle
For a merchandising company, the
classes of transactions in the revenue
cycle include:
1. credit sales (sales made on accounts),
2. cash receipts (collections on accounts
and cash sales), and
3. sales adjustments (discounts, sales
returns and allowances, and
uncollectible accounts [provisions and
write-offs]).
Consider: How Can Revenue be
Manipulated?
Inherent Risk Assessment and
Fraud Consideration
1. Pressures to overstate revenues to achieve
announced revenue or profitability targets.
2. Pressures to overstate cash and gross
receivables or understate the allowance for
doubtful accounts for debt covenant working
capital requirements.
3. Revenue recognition: ambiguous standards,
estimates, complexity of the calculations,
rights of return.
4. Receivables are factored with recourse: correct
classification as a sale vs. a borrowing.
5. Cash receipts susceptible to misappropriation.
6. Sales adjustments can conceal theft.
7. Classification of AR as current vs. non-current
Inherent Risk Asessment
Understand the Client’s Business
and Industry
1. Develop an expectation of total
revenues
2. Develop an expectation of gross margin
3. Develop an expectation of net
receivables
4. Understanding industry accounting
practices.
Consideration of IC: Obtaining an
Understanding and Assessing CR
 Control Environment
 Risk Assessment
 Information and Communication
 Initiate transactions
 Deliver (receive) goods or services
 Record Transactions
 Consideration
 Control Activities
 Monitoring
Credit Sales
Common Documents and Records
• Customer Order
• Sales Order
• Shipping Documents (Bill of Lading and Packing Slip)
• Sales Invoice
• Authorized Price List
• Sales Journal
• Customer Master File
• Accounts Receivable Master File
• Customer Monthly Statement
System Flowchart – Initiate
Credit Sales
System Flowchart – Delivery
of Credit Sales
System Flowchart –
Recording Credit Sales
Cash Receipt
Common Documents and Records
• Remittance advice
• Prelist
• Cash count sheets
• Daily cash summary
• Validated deposit slip
• Cash receipts journal
Control Activities —
Sales Adjustment Transactions

Sales adjustment transactions

involve the following:
1. Granting cash discounts
2. Granting sales returns and
allowances (credit memo)
3. Determining uncollectible
accounts (write-off authorization
memo)
Substantive Tests of
Revenues and Receivable
Important Concept:
 The sales that are most likely to
represent potential misstatements are
the uncollected sales.
 To design substantive tests for these
accounts, the auditor must first
determine the acceptable level of tests
of details risk for each significant
related objective.
Standard Substantive Tests for
Revenues & Receivables
1. Initial procedures
2. Analytical procedures
3. Tests of transactions
a) Test details of sales transactions
b) Cut-off testing
– Sales
– Cash Receipts
– Credit Memos
4. Tests of balances
a) Confirmations
b) Estimates
5. Presentation and disclosure
Substantive Tests of
Accounts Receivable
Analytical Procedures Commonly Used to
Audit the Revenue Cycle
Test of Detail Transactions
Substantive Tests Revenue and
Receivables Cycle: Cut-off Tests
Objective: Ensuring recording of
transactions in the correct period
Types:
1. Sales
2. Credit memos
3. Cash receipts
Substantive Tests of AR:
Confirmations
 Confirm Receivables
 Confirmation of accounts receivable
involves direct written
communication between individual
customers and the auditor. This
substantive test is used extensively
by the auditor.
 Substantive Tests of AR:
Confirmations
Confirmation of receivables is a generally
accepted auditing procedure which should
be performed unless:
1. AR is immaterial to the financial statements.
2. The use of confirmations ineffective.
3. Inherent risk and control risk are low enough
and analytical procedures expected to be
effective enough to get audit risk to
anacceptably low level.
Substantive Tests of AR:
Confirmations
There are 2 forms of confirmation
request:
1. the positive confirmation, which
requires the debtor to respond
whether or not the balance shown is
correct,
2. the negative confirmation, which
requires the debtor to respond only
when the balance shown is incorrect.