Procedures For Auditing Transactions Il – Current Assets (Cash, Debtors And Stock)

 

1.0 INTRODUCTION

In this note, you will be considering the auditing procedures for the following current asset items:

· cash

· debtors

· inventory

Emphasis will be placed on how to go about verifying these items as they appear in the balance sheet.

2.0 OBJECTIVES

At the end of this note, you should be able to:

· state the objectives of cash audit

· outline the audit programme for cash

· enumerate the general method of verifying debtors

· state group inventory relative to financial reporting

· list audit programmes for inventory.

3.0 MAIN CONTENT

3.1 Cash

Cash is one of the most liquid assets and as such, it is susceptible to defalcation. This is why the audit procedures applied to cash should be more extensive.

3.1.1 Objectives of Cash Audit

The auditor’s objectives in an audit of cash are as follows:

(i) to determine that the amount shown in the final accounts constitutes cash in hand, cash at banks, and cash in transit;

(ii) to determine the reasonableness of the cash reported;

(iii) to determine that any restricted cash is properly classified and

disclosed.

In auditing cash, the auditor must study and evaluate internal control to determine if cash is presented in a fair and logical manner. Also, he conducts both compliance and substantive tests to see if the controls areadequate, and confirms the amounts on deposit directly with the banks,counts cash, prepares bank reconciliation statements and so on. If the result of the auditor’s study and evaluation shows weak internal control,he will extend the scope of his audit work. The auditor discovers the

company through verification.

3.1.2 Audit Programme for Cash

Audit programme for cash takes the following procedures.

(i) List each location where cash is held, showing for each, the dateand time of the comment and the  name of staff responsible first;

(ii) Take a surprise possession of the cash book/safe for cash count in the presence of the cashier. Possession and counting should be done simultaneously;

(iii) Cash count result should be entered into the worksheet and the cash returned to the cashier;

(iv) All documents relating to cash can be retained by the auditor until verifications are made;

(v) Note the number of the last cheque leaf used, and test to determine that all unused cheques are accounted for and under adequate control;

(vi) Perform verification of cash transactions in some expense accounts;

(vii) Send out confirmation requests to verify amounts in deposit at the audit date;

(viii) Trace recorded cash receipts to the bank statement;

(ix) Test cash receipt and cash disbursement cut-off;

(x) Reconcile bank accounts as of audit date. Reconciliation statements prepared by the client should be examined to determine if there are any unusual items. Note that all uncleared cheques have been cleared after date. Also note lodgements credited after date, but actually paid in before date;

(xi) Investigate all non-sufficient fund cheques and all outstanding cheques

(xii) Compare cancelled cheques with cash disbursement journal;

(xiii) Prove footings of cash disbursement and cash receipts journals and trace the posting to the ledger;

(xiv) Investigate and trace all bank transfers;

(xv) Prepare worksheet for deposits for the period;

(xvi) Determine the corrections of cash balance as per the balance sheet date.

3.2 Debtors

Debtors form a large item among the assets of most firms and their verification is essential. The general method of verifying debtors include the following.

(a) Determine the system of internal control over sales and debtors.

The system for debtors should ensure that:

(i) only bona fide sales bring debtors into being;

(ii) all such sales are made to approved customers, and are recorded;

(iii) once recorded, the debts are only eliminated by receipt of cash;

(iv) debts are collected promptly;

(v) balances are regularly reviewed and aged, a proper system for

follow up exists, and, if necessary, adequate provision for bad

and doubtful debts is made;

(b) Test the effectiveness of the system;

(c) Obtain a schedule of debtors;

(d) Test balances on ledger accounts to the schedule and vice versa;

(e) Test casts of the schedule;

(f) Examine make-up of balances. They should be composed of specific items;

(g) Ensure each account is settled from time to time;

(h) Examine and check control accounts;

 (i) Enquire into credit balances;

(j) Consider the valuation of debtors. This is really a consideration

of adequacy of the provision for bad and doubtful debts.

It should be noted that:

(i) debts which are considered irrecoverable should be written-off to the profit and loss account;

(ii) provisions for doubtful debts should be set up against debts which are considered doubtful;

(iii) the practice of debtors circularization should be employed (Ref.

3.3 Stock

Another name for stock (of goods) is inventory, and it is often composed of a large amount of a company’s assets. According to the Statement of Accounting Standards (SAS) published by the Nigerian Accounting Standards Board (NASB), stocks can be defined as “items of value held

for use or sale by an enterprise and usually compose of raw materials and supplies used in production, work-in-progress and finished goods”.

In financial reporting, inventory can be grouped into the following.

(i) Retail inventory – this is usually small in quantity of a substantial number of different items which can be found in pharmacy stores, supermarkets/department stores, etc;

(ii) Wholesale inventory – usually very large with different items;

(iii) Manufacturer’s inventory – consists of:

· raw materials

· work-in-progress

· finished goods.

3.3.1 Auditor’s Responsibility

The auditor’s responsibilities regarding inventory are as follows.

(i) Ensure that the amount presented in the balance sheet is not overstated. In doing this, the auditor must be present at the time of stocktaking (inventory count), to observe and check the

accuracy of the counting;

(ii) Ensure that all inventories to be included are added and those to be excluded are removed;

 (iii) Ensure that there is proper validation of physical existence and the valuation of inventory. Failure to get assurance may lead to false balance sheet presentation of the inventory amount;

(iv) Make appropriate classification and accurate determination of quantity and cost of stocks that are necessary for proper determination of the results of the operation of an enterprise and

for the presentation of current assets in its balance sheet.

3.3.2 Auditor and Inventory

From the foregoing, you can deduce that an auditor should be present when inventory count is conducted. His observations, tests and inquiries would enable him to form an opinion as to inventory quantities and conditions prevailing on that date.

An auditor should perform tests of the accounting records, and should be able to use statistical sampling method to satisfy himself that the amount presented in the financial statements is fairly recorded. 

SAS No. 4 requires every auditor to state different methods of valuation
– First In First Out (FIFO), Last In First Out (LIFO), moving average,etc. – that have been adopted for different types of stocks, the amount included in the financial statements, and the methods used in respect of each type. Any departure from one method of valuation used in the previous period should be disclosed in accordance with SAS No. 1.

3.3.3 Audit Programme for Inventory

The audit programmes for inventory are as follows.

(i) Review and test internal control over inventory. Test of compliance is used to perform this test;

(ii) Review physical inventory plans;

(iii) Examine some purchase orders;

(iv) Perform test on cost accounting system;

(v) Make inquiry on goods held on consignment;

(vi) Conduct inventory observations and physical count of all goods in the store;

(vii) Test clerical accuracy of inventory sheets and other cost records;

(viii) Apply lower cost or market;

(ix) Review standard cost variances;

(x) Test the gross profit;

(xi) Review the analysis of cost of goods;

(xii) Review balance sheet disclosures;

(xiii) Determine the reasonableness of amount of inventory in the balance sheet.

4.0 CONCLUSION

You are now aware of the auditor’s responsibility in respect of verification of current assets. Review of internal controls for cash, debtors and stock helps in their verification as presented in the balance

sheet. Auditors should be conversant with the general and specific procedures for auditing current assets.

5.0 SUMMARY

In this note, you have learnt the following:

· that cash, being susceptible to defalcation because of its high

liquidity, deserves the application of a more extensive audit

procedures;

· that there are auditor’s objectives in the audit of cash;

· the audit programme for cash, debtors and stock;

· that, in financial reporting, inventory could be grouped into retail,

wholesale and manufacturer’s;

· that auditors have responsibility with regard to inventory;

· that, it is very important for the auditor to be present when

inventory count is conducted.

<<<Previous Note

View Course Content

Next Note>>>