UNIT FOUR

Audit of Acquisition
Audit of Sales
And
and Collection
Payment Cycle
Cycle (18)

11/06/2023 BU -Together We Can!

 outlines
• Overview of the cycle
• Key Internal Controls
• Test of control and substantive test of
transactions
• Test of Detail Balances of PPE
• Test of Detail Balances of other
accounts(purchase and current liability)
• Test of Detail Balances of Account Payable
 4.1. Overview of Audit of PPE

There are 4 types of transactions related to

PPE.
Acquisition of capital asset
Disposition of capitals
Depreciation of capital assets over its
useful life
Leasing of capital asset
 Objectives of Audit
• To determine the existence of recorded PPE
• To examine the completeness of recorded
PPE
• To evaluate that the client`s right on
recorded PPE
• To check the valuation & allocation of cost
of PPE is in accordance with IFRS
• To determine the appropriateness of
presentation and disclosures.
 Key Internal Controls

 Maintenance of the subsidiary ledger each

type of PPE
 Analysis of variance from budgeted
expenditure
 A statement of policy to distinguish capital
and Revenue Expenditures
 Periodic physical inventories
 segregation of duties and responsibility (eg.
Record & custodial funs. Should be
segregated)
 Test of transactions
o Occurrence: check/vouch the significant
additions, dispositions to the vendors
invoice or other supporting reports and the
PPE records.
o Completeness: trace a sample of purchase
requisitions to shipping/ loading doc.
reports and PPE records.
o Authorization: vouch a sample of PPE
addition to documentations indicating
proper authorization.
Accuracy: test the amounts against income &
accumulated deprn. for assets written-off.(due
to impairment lose).
Cutoff: examine the purchase and sale of
capital asset few days before and after year end.
Proper Classification: check classifications of
transactions repair and maintenance cost as
Revenue expense/Capital expenditure.
Test of Details account balances
Existence: verify the existence of major additions by
physically observing/ examining the capital assets
Rights & Obligations: confirm deeds or tile of
documents for proof of ownership.
Completeness: obtain a lead schedule of PPE, foot
schedule and compere the agreement with the totals
in GL.
Valuation and Allocation: verify the impairment loses
by determining the sum of expected future cash flows
and comparing that sum to the carrying value.
Audit of purchase and current liability
The three types of transactions are;
 purchase of goods/services (cash/cr)
Payment of liabilities resulted from
purchase
Returns and allowance ( cash/Cr.)
The auditor should to examine all necessary
documents related to purchase and
payment.
 Possible doc. Related to purchase to be
checked are
Purchase
Purchase order Vendors
Requisite
Invoice/Bill/

Receipt
report
Vouche

registe

Paym

doc.

Vend

ment
State
ent
r

ers
Business functions in cycle related to the
document and records.
There are 4 bus. Fun.s involved in the cycle.
1. Processing purchase order; includes
purchase requisition, which is used to
request authorization for goods and
services, purchase order used for the order
after it has been authorized.
2. Receiving goods and services; includes a
receiving reports which are prepared at the
time goods are received.
3. Recognizing Liability : proper recognition
requires prompt and accurate recording.
Documents that may be involved;
 Vendor`s invoice; is a doc. From the
vendors that shows the amount owes for
acquisition.
 Debit memo; is also from a vendor
showing the reduction in amount owed.
 Voucher: a formal means of recording and
controlling acquisitions. (all doc. Put
together) or voucher is simply a file.
 Acquisition transaction file:is a computer
generated file including all acquisition
transactions. Name of vendor, date,
amount, account classification , description
and quantity of goods purchased.
 Acquisition Journal or Listing : also
referred as a purchase journal. (list of
venders and the amount/balance).
 A/P master file; records acquisition, cash
disbursements, return and allowance for
each vendor.
 A/P TB: is a list of amount owed each vendor
at point in time.
 Vendors` statements: (External Doc.)
prepared monthly by the vendor indicating
the beg. Balance, acquisition, payment, return
and allowance and ending balance.(should
match with the balance in A/P master file).
4. Process recording cash disbursement: the
payment of the liability is the significant activity
of all business. Doc.s that the auditor examine
associated with this activity are;
 Check: document used to pay acquisition;
it may be paper or electronic fund
transfer(EFT).
 Cash disbursement transaction File; is a
computer generated file that includes all
cash disbursement transaction processes
during the period.
 Cash disbursement journal or listing;
includes all disbursement transactions for
a period.
The ff table show a general overviw
Objectives of audit of A/P & purchase.
 To substantiate the existence of the of
recorded A/P & occurrence of purchase.
 To examine the completeness of A/P &
purchase transaction.
 To Determine the clients obligation to pay the
recorded A/P.
 Determine that the valuation of A/P is in
accordance with IFRS.
 Determine the appropriateness of the
presentation & Disclose.
 Internal Controls over the purchase process

 Segregation of duties; purchasing and

disbursements functions must be separated.
 Matching of details of venders invoice to
purchase requ., Purchase order and receipt
documents.
 Pre-numbered checks
 Reconciliation of venders` statements to
accounts.
 Use of budget and analysis of variances.
Substantive Test of Transactions
Completeness; tracing of a sample of
vouchers to the purchase journal.
Authorization: test of samples of purchase
requisition for proper authorization
Accuracy; need to recalculate the
mathematical accuracy of sample of venders
invoices.
Cutoff; test transaction around year end to
determine if they are recorded in proper
period.
Proper classification: verify classification
of charges for a sample of purchase
transactions

Test of Account balances

Existence; vouch the selected amounts
from the accounts payables listing and
schedules for the accruals to voucher
packages or other supporting doc.
*obtain selected vendor`s statement and
reconcile the vendors account to confirm A/P
Rights and Obligations: review voucher
packets for presence of purchase
requisition, order, receiving report and
vendor invoice.
Completeness: check unrecorded liablities
by inquiring mgt, & post balance sheet
transactions.
 Valuation & Allocation: obtain listing of A/P and
account analysis schedule for accruals and agree
to GL
A search for unrecorded liabilities;
1. Ask mgt for control activities used to identify
unrecorded liabilities and accruals at the end of
period.
2. Obtain copies of vendors monthly statement &
reconcile to the clients A/P records.
3. Confirm vendors account including accounts
with the small or even zero balance.
A/P or vendor Confirmation
 is less frequently used than A/R. because
the auditor can use the vendor`s
statement payment doc.

End of chapter 4
 UNIT FIVE

AUDIT OF THE INVENTORY

AND
WAREHOUSING CYCLE
 Outlines
Nature of Inventory
Control activists & Test of
Control
Auditing cost of accounting
Observing Physical Inventory
Testing of pricing complication
 Nature of Inventory
The inventory and warehousing cycle is unique
because of its close relationships to other
transaction cycles, such as sale and purchasing
cycle.
Eg. For Manufacturing business
RM=>Inv & WH Cycle From acquisition &
payment cyle
DL=> from payroll & personnel cycle.
Iven &WH cycle starts from acquisition and ends
with sale of FG and collection cycle.
The audit of inventory is often the most complex and
time consuming part of the audit.
Factors affecting the complexity of the audit of
inventory include:
 Inventory is often the largest account on the balance
sheet.
 Inventory is often in different locations, making physical
control and counting difficult
 Diverse inventory items
 Inventory valuation is also difficult when estimation of
inventory obsolescence is necessary and when
manufacturing costs must be allocated to inventory.
 use different valuation methods for different parts of the
inventory, which is acceptable under accounting standards
BUSINESS FUNCTIONS IN THE CYCLE
AND RELATED DOCUMENTS AND RECORDS

There are Six/seven functions making up the

Inv.& WH cycle.
1. Process of purchase orders
2. Receive raw materials
3. Store raw materials
4. Process goods
5. Store finished goods
6. Ship finished goods
 1. Process Purchase Orders
 The inv.& WH cycle begins with the acquisition
of raw materials for production.
 Adequate controls over purchasing must be
maintained.
Purchase requisition => used to requisite
purchasing dep`t to order inventory
=>initiated by stockroom personnel when RM
needed.
Purchasing dep`t prepare purchase order for
the customers to provide the required materials.
 2. Receive raw materials
Receiving the ordered RM is a part of
acquisition cycle.
Involves the inspection of the quality and
quantity.
The receiving dep`t prepare “Receiving
Report ” before payment. => part of
documentation
 3. Store raw materials

Received RM stored in a stockroom.

When the RM is needed for production the
personal properly prepare and submit
material requisition form. => also
documentation.
 the material requisition doc. Is used
update the perpetual inv. Master file &
record transfers from RM to WIP account.
 4. Process the goods

• Cos` determine the FG items & quantity.

• They produce based on specific orders

from customers, sales forecasts,
predetermined FG inv. Level and
economical production run.
An adequate cost accounting system is an
important part of the processing function for
all manufacturing companies.
The system shows the relative profitability of
the products for management planning and
control and values inventories for preparing
financial statements. (2 sytems)
Cost accounting records include; master file,
spread sheet & reports that accumulate
martial, labour & MoH costs incurred. When
job is completed the related costs are
transferred from WIP to FGs accounts
 5. Store finished goods
 When production process is completed the FGs are
stored in stockroom waiting for shipment.
 Should be kept in kept under physical control in a
separate, limited-access area. (part of sale & collection
cycle)
6. Ship finished goods
 is part of sale & collection cycle
 The actual shipment trigger for recognizing related A/R
& Sales accounting system
 Shipment must be authored by a properly approved
shipping document.
6. Perpetual Inventory Master Files
 Separate perpetual records are obvious for RM
&FG but in some Cos. WIP is not used.
 Perpetual inv. Master file includes information
about the units of inventory acquired, sold,
and on hand. (unit price = computerized
system)
 FGs perpetual inventory master files include
the same type of information as RM.
Perpetual.(unit cost=complex )
 FGs costs include raw materials, direct labor,
and manufacturing overhead.(look at Fig21.12)
 PARTS OF THE AUDIT OF
INVENTORY
After having the understanding of the bus,
fun, now let us turn our attention to the
audit of the cycle.
The overall objective in the audit of the inv.
and WHing cycle is to provide assurance
that the financial statements fairly account
for RM, WIP, FGs inventory, and CGS.
• The cycle can be divided into five activities
within the cycle:
1. Acquire and record raw materials, labor,
and overhead
2. Internally transfer assets and costs
3. Ship goods and record revenue and costs
4. Physically observe inventory
5. Price and compile inventory
 Acquire and Record Raw Materials,
Labor, and Overhead
 Auditors need to understand IC of these 3 fun.
 then perform test of control & substantive test
on purchase & pay and Payroll & personnel
cycles.
 Tests should satisfy the auditor.
 since labor is a significant part of
manufactured inventory, auditors should verify
the proper accounting for these costs in the
payroll and personnel cycle.
 Transfer Assets and Costs
 Clients account for these activities (internal transfer
of inventory) in the cost accounting records, which
are independent of other cycles and are tested as
part of the audit of the inv. and WHing cycle.
Ship Goods and Record Revenue and Costs
 understanding and test internal controls over
recording shipments as a part of auditing that cycle,
to verify the accuracy of the credits to inventory
recorded in perpetual inventory master files.
 Physically Observe Inventory
 Auditors must observe the client taking a
physical inventory count to determine
whether recorded inventory actually exists
at the balance sheet date and is correctly
counted by the client.
 Physical examination is an essential type
of evidence used to verify the existence
and count of inventory
 Price and Compile Inventory
 Costs used to value inventory must be tested to
determine whether correctly followed an inventory
method that is both in accordance with accounting
standards and consistent with previous years.
 Audit procedures used to verify these costs are called
price tests. In addition, the auditor must perform
inventory compilation tests to verify whether the
physical counts were correctly summarized, the
inventory quantities and prices were correctly
extended, and the extended inventory correctly footed
to equal the general ledger inventory balance.
 The End

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