Accounting Principles - CH 11 - Accounts/Notes Receivable and Revenue

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  1. Sources of A/R
    Claims against customers from sale of goods

    Loans to officers or employees

    Loans to subsidiaries

    Claims against various other refunds

    Claims for tax refunds

    Advances to suppliers
  2. Sources of N/R
    Written promises to pay certain amounts at future dates

    Notes for substantial amounts

    Installment note or contract can allow seller to hold lien on goods
  3. Audit risk significant because
    Many incidences of fraud have involved overstatement of receivables and revenue

    Revenue recognition may be based on complex accounting rules

    Receivables and revenues are usually subject to valuation using significant accounting estimates
  4. Internal Control over A/R and Revenue
    Control Environment
    Important because of risk of intentional misstatement of revenue

    Independence of audit committee

    Management establish tone at the top

    Commitment to competence

    Management’s philosophy and operating style

    Human resource policies and practices
  5. Internal Control over A/R and Revenue
    Control Activities
    Division of duties

    •Prepare sales order

    •Approve credit

    •Issue merchandise from stock



    •Invoice verification

    •Maintenance of control accounts

    •Maintenance of customers’ ledgers

    •Approval of sales returns and allowances

    • •Authorization of write-offs of
    • uncollectible accounts
  6. Revenue Cycle--Documents
    ØCustomer purchase order

    ØSales order

    ØBill of lading


    ØControl listing

    ØCredit memo
  7. Revenue Cycle Controls
    ØSegregation of duties--sales and collections

    ØMatching of sales invoices and shipping documents

    ØClerical accuracy checks on invoices

    ØCredit approval for sales transactions

    ØMailing of monthly statements

    ØReconciliation of bank accounts

    ØUse of control listing of cash receipts

    ØUse of budgets and analysis of variances

    ØControl over shipping and billing documents

    ØUse of authorized credit memoranda

    ØUse of chart of accounts and review of account codings
  8. Internal Control over Notes Receivable
    ØSubdivision of duties
    The custodian of notes receivable should not have access to cash or to the general accounting records

    The acceptance and renewal of notes be authorized in writing by a responsible official who does not have custody of notes

    The write-off of defaulted notes be approved in writing by responsible officials and effective procedures adopted for subsequent follow-up of such defaulted notes
  9. Audit Documentation
    • ØLead schedules for receivables and net
    • revenue and

    • ØWorking papers
    • Aged trial balance of A/R
    • Analyses of other accounts receivable
    • Analysis of notes receivable and related interest
    • Analysis of allowance for doubtful accounts and notes
    • Comparative analyses of revenue Documentation of internal control
    • Risk analyses and audit program
  10. Examples of tests of controls
    a. Examine significant aspects of a sample of sales transactions.

    b. Compare a sample of shipping documents to related sales invoices.

    c. Review the use and authorization of credit memoranda.

    d. Reconcile selected cash register tapes and sales tickets with sales journals.

    e. Test IT application controls.

    f. Examine evidence of review and approval of revenue estimates.
  11. Perform further audit procedures—substantive procedures for receivables and revenue
    1. Obtain an aged trial balance of trade accounts receivable and analyses of other accounts receivable and reconcile to ledgers.

    2. Obtain analyses of notes receivable and related interest.

    3. Inspect notes on hand and confirm those with holders.

    4. Confirm receivables with debtors.

    5. Review the year-end cutoff of sales transactions.

    6. Perform analytical procedures for accounts receivable, notes receivable, and revenue.

    7. Review significant year-end sales contracts for unusual terms.

    8. Test the valuation of notes receivable, computation of interest income, interest receivable, and amortization of discount or premium
  12. Details on Understanding the Client Business
    ØThe types of products and services sold.

    • ØThe classes and categories of the
    • client’s customers.

    • ØWhether the business is affected by
    • seasonal or cyclical demand.

    • ØTypical marketing policies for the client
    • and its industry.

    • ØPolicies regarding pricing, sales
    • returns, discounts, extension of credit, and normal delivery and payment terms.

    • ØCompensation arrangements that are based
    • on recorded revenue.

    • ØTypical revenue recognition principles
    • used in the industry and their methods of application
  13. Fraud Risk related to Receivables and Revenue
    • ØUnderstand controls established by
    • management to control risk

    ØDetermine controls have been implemented

    • ØRespond to risk
    • lHas overall effect on audit
    • lDesign of audit procedures
    • lPerforming procedures to address risk of material misstatement due to management override of internal control
  14. Confirmation of Receivables
    • Receivables should be confirmed, unless:
    • ØAccounts receivable are immaterial,

    ØThe use of confirmations would be ineffective, or

    ØThe auditors’ combined assessment of inherent and control risk is low, and audit risk can be reduced to acceptably low level with substantive tests
  15. Types of Confirmations 
    Positive confirmations
    Request addressed to the debtor asking for a reply

    •Ordinarily sent with balances due on them

    • •Blank forms – leave amount blank (used
    • less frequently

    “Positive” means you intend to get a response whether respondent agrees or not.
  16. Types of Confirmations
    Negative confirmations
    Ask debtor to advise the auditors only if the balance shown is incorrect

    •Low level of assessed risk of material misstatement and sufficient evidence on operating effectiveness of controls

    •Large number of small balances

    •Low exception rate is expected

    • •Recipient expected to respond
    • appropriately
  17. Criteria for Recognition of Revenue
    ØPersuasive evidence of an arrangement exists

    ØDelivery has occurred or services have been rendered

    ØThe seller’s price to the buyer is fixed or determinable

    ØCollectability is reasonably assured
  18. Potential Revenue Recognition Problems
    ØSales with unusual right to return

    ØSide agreements

    ØFranchise fees

    ØBill and hold transactions

    ØChannel stuffing

    ØWindow dressing

    • ØSales using notes with unusual interest
    • rates

    • ØPercentage-of-completion method of
    • revenue recognition

    ØMultiple element agreements
  19. Allowance for Doubtful Accounts
    ØSignificant estimate made by management

    • ØBest evidence of collectability is
    • subsequent payment

    • ØDevelop estimate and evaluate reasonableness of management estimate
    • a)Compare the details of the aging of accounts receivable to prior years’ aging.
    • b)Investigate the credit ratings for delinquent and unusually large accounts.
    • c)Review confirmation exceptions for an indication of amounts in dispute or other clues as to possible uncollectible accounts.
    • d)Summarize in a working paper those accounts whose collectability is doubtful based on the preceding procedures. List customer names, doubtful amounts, and reasons for considering these accounts doubtful.
    • e)Review with the credit manager the current status of significant doubtful accounts 
    • f)Compute relationships, such as the number-of-days’-sales in accounts receivable and the relationship of the valuation allowance to (1) accounts receivable and (2) net credit sales
  20. Related Party
    To identify related party transactions, auditors should review

    lProxy and other filings with SEC or other regulatory agencies

    lconflict-of-interest statements by management

    lTransactions with unusual terms

    lAccounting records for unusual balances or transactions particularly near year-end
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Accounting Principles - CH 11 - Accounts/Notes Receivable and Revenue
2014-11-03 04:17:52
Accounting Principles 11 Accounts Notes Receivable Revenue

Accounting Principles - CH 11 - Accounts/Notes Receivable and Revenue
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