CHAPTER 9: SUBSTANTIVE TEST OF RECEIVABLES AND SALES

INTRODUCTION

The audit of receivables and revenue represents significant audit risk because:

1) management fraud (overstatement of revenue and receivables)

2) revenue recognition subject to complex accounting rules

3) subject to valuation using significant accounting estimates

Controls companies should establish

1) audit committee to oversee reliability of reporting of revenue

2) internal audit department to monitor compliance with other revenue cycle controls

3) human resource policies and practices to ensure competent personnel are involved in making
estimates

4) effective monitoring polices and procedures

AUDIT OBJECTIVES

Existence or Occurrence

All receivables on the statement of financial position are authentic claims of the entity.

All sales have really occurred and pertain to the entity.

Completeness

All authentic claims of the entity for receivable are included on the statement of financial position.

All sales have been included in the statement of comprehensive income

Cut-off

Sales have been recorded in the proper accounting period

Valuation and Allocation

Receivables are carried at their net realizable value.

Accuracy

Sales have been accurately recorded in the statement of financial position at the reporting date

Rights and Obligations

The enitity owns or has a legal right to all the receivables on the statement of financial position at the
reporting date
Presentation and disclosure and classification

AUDIT PROCEDURES

1) Reconciliation of subsidiary ledger with general ledger

2) Confirming receivables and reviewing subsequent cash receipts

3) Analyzing notes receivable and related interest

4) Evaluating the adequacy of allowance for doubtful accounts including appropriateness of the
methodology used to calculate the allowance

5) Performing accounts receivable and sales cutoff

6) Checking the appropriate valuation of accounts receivables denominated in foreign currencies

7) Investigating any transactions with or related party receivables

8) Analyzing credit balances and unusual items

9) Ascertaining whether any receivables have been pledged or assigned and

10) Performing analytical procedures

RECEIVABLES

Under PFRS 15 a receivable is an entitys right to consideration that is unconditional. A right to

consideration is unconditional if only the passage of time is required before payment of that
consideration is due

Classification of receivables

A. As to source

1. Trade receivables- refer to claims arising from sale of merchandise or services in the ordinary
course of business operations

a. accounts receivable/ customers accounts/ trade debtors open accounts

b. notes receivable negotioble promissory note (exclude dishonored notes, overdue

notes: accounts receivable + accrued interest)

2. Nontrade receivables- other than sale of goods or services in the normal course of business.

a. loans to officers, shareholders, directors and employees

b. advances to affiliates (investment)

c. advances to supplier for acquisition of merchandise

d. accrued income ( dividends receivable, accrued rent income, accrued royalties

income, accrued interest on bonds investments)

e. deposits to guarantee performance

 f. deposit with creditors, claims for losses and damages

g. claims receivables from common carriers for damaged or lost goods

h. claims for tax refunds or rebates

i. special deposit on contract bids

j. debit balance of creditors account that may arise from overpayments

B. As to Statement of Financial Position Classification

1) Current

a. Trade Receivables (Accounts Receivable, Notes Receivable)

b. Nontrade Receivables

2) Noncurrent

Issue on Subscription Receivables

Current Receivables : Collectible Currently

Deduction to Subscribed Share Capital : Otherwise

Initial Recognition

Receivables are recognized simultaneously with the recognition of revenue (PFRS 15)

OTHER REVENUE RECOGNITION ISSUES

Bill and hold sales

Revenue is recognized when the customers have obtained control of a product.

1) customer has requested the arrangement

2) identified as separately belonging to the customer

3) ready for physical transfer

4) entity cannot have the ability to use the product/ direct it to another customer

Goods shipped subject to conditions

1) Installation and inspection conditions

i. installation process is simple

ii. inspection of only for purposes of final determination of contract prices

2) On approval when the buyer has negotiated a limited right of return

Uncertainty: upon acceptance of time has elapsed

Layaway sales

Goods are delivered only when fully paid. Revenue is recognized when delivered. Most sales are
consummated: significant deposit is received, goods are on hand, identified, and read for delivery to the
buyer.

Sales to distributors or other intermediate parties

Control has been transferred. Substance as an agent

Orders when payment (or partial payment) is received in advance