Auditing and Assurance Services

Seventeenth Edition, Global Edition

Chapter 15
Completing the Tests in the
Sales and Collection Cycle:
Accounts Receivable

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Learning Objectives
15.1 Describe the methodology for designing tests of details
of balances using the audit risk model
15.2 Design and perform substantive analytical procedures
for accounts in the sales and collection cycle
15.3 Design and perform tests of details of balances for
accounts receivable
15.4 Obtain and evaluate accounts receivable confirmations
15.5 Design audit procedures for the audit of accounts
receivable, using an evidence-planning worksheet as a
guide

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Learning Objective 15.1
Describe the methodology for designing tests of details of
balances using the audit risk model

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Methodology for Designing Tests of
Details of Balances (1 of 3)
• In designing tests of details of balances for accounts
receivable, auditors must satisfy each of the nine
balance-related audit objectives:
– (1) Detail tie-in (2) Existence
– (3) Completeness (4) Accuracy
– (5) Cutoff (6) Realizable value
– (7) Classification (8) Rights
– (9) Presentation

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Figure 15.1 Methodology for
Designing Tests of Details of
Balances for Accounts Receivable

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Methodology for Designing Tests of
Details of Balances (2 of 3)
• Tests of accounts receivable are based on the auditor’s
risk assessment procedures
• Auditor performs preliminary analytical procedures that
may indicate increased risk of misstatements in accounts
receivable
• As part of the assessment of the risk of material
misstatement, the auditor determines whether any of the
risks identified are a significant risk

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Methodology for Designing Tests of
Details of Balances (3 of 3)
• Internal controls over sales and cash receipts and the
related accounts receivable are at least reasonably
effective for most companies
• Auditors are especially concerned with three aspects
of internal controls:
– Controls that prevent or detect embezzlements
– Controls over cutoff
– Controls related to the allowance for uncollectible
accounts

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Let’s Discuss (1 of 6)
• Distinguish among tests of details of balances, tests of
controls, and substantive tests of transactions for the
sales and collection cycle.
– Explain how the tests of controls and substantive tests
of transactions affect the tests of details of balances.

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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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Learning Objective 15.2
Design and perform substantive analytical procedures for
accounts in the sales and collection cycle

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Design and Perform Substantive
Analytical Procedures (1 of 3)
• Most substantive analytical procedures performed during
the detailed testing phase are done before tests of details
of balances since the results of the substantive analytical
procedure affect the extent of detail testing
• Auditors perform both planning and substantive analytical
procedures for the entire sales and collection cycle, not
just accounts receivable

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Design and Perform Substantive
Analytical Procedures (2 of 3)
• In addition to the analytical procedures, auditors
should review accounts receivable for:
– Large and unusual amounts, such as large balances
– Accounts that have been outstanding for a long time
– Receivables from affiliated companies, officers,
directors, and other related parties
– Credit balances

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Design and Perform Substantive
Analytical Procedures (3 of 3)
• If the results are favorable
–They reduce the extent to which the auditor needs
to perform detailed tests of balances
• If the results uncover unusual fluctuations
–The auditor should make additional inquiries of
management

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Table 15.1 Analytical Procedures for
the Sales and Collection Cycle (1 of 2)
Analytical Procedure Possible Misstatement
Compare gross margin percentage with Overstatement or understatement of
previous years (by product line). sales and accounts receivable.
Compare sales by month (by product line) over Overstatement or understatement of
time. sales and accounts receivable.
Compare sales returns and allowances as a Overstatement or understatement of
percentage of gross sales with previous sales returns and allowances and
years (by product line). accounts receivable.
Compare individual customer balances over a Misstatements in accounts receivable
stated amount with previous years. and related income statement
accounts.
Compare bad debt expense as a percentage of Uncollectible accounts receivable that
gross sales with previous years. have not been provided for.

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Table 15.1 Analytical Procedures for
the Sales and Collection Cycle (2 of 2)
Analytical Procedure Possible Misstatement
Compare number of days that accounts Overstatement or understatement of
receivable are outstanding with previous allowance for uncollectible accounts
years and related turnover of accounts and bad debt expense; also may
receivable. indicate fictitious accounts
receivable.
Compare aging categories as a percentage of Overstatement or understatement of
accounts receivable with previous years. allowance for uncollectible accounts
and bad debt expense.
Compare allowance for uncollectible accounts Overstatement or understatement of
as a percentage of accounts receivable with allowance for uncollectible accounts
previous years. and bad debt expense.
Compare write-off of uncollectible accounts as Overstatement or understatement of
a percentage of total accounts receivable allowance for uncollectible accounts
with previous years. and bad debt expense.

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Let’s Discuss (2 of 6)
• List five analytical procedures for the sales and collection
cycle.
– For each test, describe a misstatement that could be
identified.
• Describe how auditors might use data visualization
techniques to perform analytical procedures on
disaggregate data for sales or accounts receivable.
– Provide a specific example.

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Learning Objective 15.3
Design and perform tests of details of balances for accounts
receivable

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Designing Tests of Details of
Balances (1 of 4)
• Even though auditors emphasize balance sheet accounts
in tests of details of balances
– They are not ignoring income statement accounts
because the income statement accounts are tested as
a by-product of the balance sheet tests
• The audit procedures selected and their sample size will
depend heavily on whether planned evidence for a given
objective is low, medium, or high

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Designing Tests of Details of
Balances (2 of 4)
• Most tests of accounts receivable and the allowance for
uncollectible accounts are based on the aged trial balance
• An aged trial balance lists:
– The balances in the accounts receivable master file at
the balance sheet date
– The breakdown of each balance by the time passed
between the date of sale and the balance sheet date

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Figure 15.3 Aged Trial Balance for
Starkwood Group

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Designing Tests of Details of
Balances (3 of 4)
• The auditor’s tests of details of balances for accounts
receivable include (1 of 2):
– Recorded accounts receivable exist
– Existing accounts receivable are included
– Accounts receivable are accurate
– Cutoff for accounts receivable is correct

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Designing Tests of Details of
Balances (4 of 4)
• The auditor’s tests of details of balances for accounts
receivable include (2 of 2):
– Accounts receivable is stated at realizable value
– Accounts receivable are properly classified
– The client has rights to accounts receivable
– Accounts receivable presentation and disclosure

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Let’s Discuss (3 of 6)
• Identify the nine accounts receivable balance-related audit
objectives.
– For each objective, list one audit procedure.
• Why does an auditor review sales returns subsequent to
year-end?
– What audit objective does this procedure satisfy?

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Learning Objective 15.4
Obtain and evaluate accounts receivable confirmations

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Confirmation of Accounts Receivable
(1 of 4)

• Confirmation of accounts receivable is the most important

test of details of accounts receivable
• The primary purpose of accounts receivable confirmation
is to satisfy the existence, accuracy, and cutoff objectives
• The confirmation can be a direct written response from a
third party in paper or electronic form

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Confirmation of Accounts Receivable
(2 of 4)

• Auditors should use external confirmations for

accounts receivable unless:
– The overall accounts receivable balance is immaterial
– The auditor considers confirmations ineffective
evidence because response rates will likely be
inadequate or unreliable
– The auditor’s assessed level of the risk of material
misstatement is low and other substantive evidence
can be accumulated to provide sufficient evidence

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Confirmation of Accounts Receivable
(3 of 4)

• Types of confirmation include positive and negative

confirmation
• The most reliable evidence from confirmations is obtained
when they are sent close to the balance sheet date
• Sample size for confirming accounts receivable is based
on performance materiality, inherent risk, control risk,
detection risk, and types of confirmation

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Confirmation of Accounts Receivable
(4 of 4)

• Nonresponses to positive confirmations do not provide

audit evidence, though nonresponses to negative
confirmations provide some evidence of the existence
assertion
• It is necessary to follow up on nonresponses with
alternative procedures
– The objective is to determine by a means other than
confirmation whether the nonconfirmed account
existed and was properly stated at the confirmation
date

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Let’s Discuss (4 of 6)
• Which of the nine accounts receivable balance-related
audit objectives can be partially satisfied by confirmations
with customers?
• Why do CPA firms sometimes use a combination of
positive and negative confirmations on the same audit?

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Let’s Discuss (5 of 6)
• State three types of differences that might be observed in
the confirmation of accounts receivable that do not
constitute misstatements.
– For each, state an audit procedure that will verify the
difference.

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Let’s Discuss (6 of 6)
• Distinguish between a positive and a negative
confirmation and state the circumstances in which each
should be used.
• Define what is meant by alternative procedures in the
confirmation of accounts receivable.
• and explain their purpose. Which alternative procedures
are the most reliable?
– Why?

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Learning Objective 15.5
Design audit procedures for the audit of accounts
receivable, using an evidence-planning worksheet as a
guide

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Developing Tests of Details Audit
Program
• The evidence-planning worksheet is an aid for the auditor
to decide the extent of planned tests of details of balances
• The determination of the development of audit program
procedures is based on the tests of controls and
substantive tests of transactions

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