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					             Chapter 9:
Auditing the Revenue Cycle




            IT Auditing & Assurance, 2e, Hall &
    IT Auditing & Assurance, 2e, Hall & Singleton
                        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
   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 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
 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 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
 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 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 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 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
 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 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 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
       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
 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
       VERIFY shipped 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
     Ensure AR subsidiary ledger, sales invoice file, remittance file are mathematically
      correct .. And agree with GL accounts
 Rights & Obligations
       Determine organization 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
       Establish allocation for uncollectible accounts is appropriate
 Presentation and Disclosure
       VERIFY AR and revenues for period are properly described and classified

                          IT Auditing & Assurance, 2e, Hall & Singleton
             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
      Verify effective procedures exist
      Verify information is adequately communicated
      Verify effectiveness of programmed decision rules (test data, ITF)
      Verify that authority for making credit decisions is limited to authorized
       credit personnel/procedures
      Perform Substantive Tests of Detail
      Review credit policy periodically and revise as necessary
                    IT Auditing & Assurance, 2e, Hall & Singleton
                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 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
 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
 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
 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 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
 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
 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 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 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 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 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 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 Cycle




         IT Auditing & Assurance, 2e, Hall &
     IT Auditing & Assurance, 2e, Hall & Singleton
                    Singleton

				
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