Gshshah

Appendix B — Substantive Testing of
Specific Account Balances
INTRODUCTION......................................................................................................................................... 6
CASH, INCLUDING BANK BALANCES................................................................................................... 7

ACCOUNT BALANCE AUDIT OBJECTIVES ....................................................................................................... 7
INHERENT RISK FACTORS ............................................................................................................................. 7
ILLUSTRATIVE PROCEDURES ......................................................................................................................... 8
Analytics................................................................................................................................................ 8
Principal procedures............................................................................................................................... 8
General procedures ................................................................................................................................ 8
Other procedures responsive to our evaluation of processes resulting in routine transactions .................. 9
Cash receipts application: ...................................................................................................................... 9
Cash disbursements application: .......................................................................................................... 10
Procedures responsive to possible errors — cash receipts application ............................................................... 11
Procedures responsive to possible errors — cash disbursements application ..................................................... 11
RECEIVABLES .......................................................................................................................................... 12
ACCOUNT BALANCE AUDIT OBJECTIVES ..................................................................................................... 12
INHERENT RISK FACTORS ........................................................................................................................... 12
ILLUSTRATIVE PROCEDURES ....................................................................................................................... 14
Analytics.............................................................................................................................................. 14
Principal procedures............................................................................................................................. 14
General procedures .............................................................................................................................. 15
Accounts receivable ............................................................................................................................. 15
Notes receivable ................................................................................................................................... 15
Allowances .......................................................................................................................................... 16
Other general procedures ..................................................................................................................... 16
Other procedures responsive to our evaluation of processes resulting in routine transactions ................ 17
Sales application: ................................................................................................................................. 17
Sales returns and allowances (credit memos) application:..................................................................... 18
Cash receipts application: .................................................................................................................... 18
Procedures responsive to possible errors — sales application ........................................................................... 19
Procedures responsive to possible errors — sales returns and allowances (credit memos) application............... 20
INVENTORIES........................................................................................................................................... 22
Analytics.............................................................................................................................................. 24
General ................................................................................................................................................ 24
Valuation ............................................................................................................................................. 25
Obsolete and excess inventory.............................................................................................................. 25
Physical inventory procedures .............................................................................................................. 28
Procedures for unobserved locations..................................................................................................... 28
Other procedures responsive to possible errors in counting and costing physical inventories................. 28
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Substantive Testing of Specific Account Balances
Other procedures responsive to our evaluation of processes resulting in routine transactions .................30
Purchases application............................................................................................................................31
Payroll application ................................................................................................................................32
Inventory/cost of sales application.........................................................................................................33
Procedures responsive to possible errors — physical inventory observation.......................................................34
Procedures responsive to possible errors — physical inventories.......................................................................35
Procedures responsive to possible errors — purchases application ....................................................................37
Procedures responsive to possible errors — payroll application ........................................................................38
Procedures responsive to possible errors — inventory/cost of sales application .................................................38
PREPAID EXPENSES.................................................................................................................................38
ACCOUNT BALANCE AUDIT OBJECTIVES ......................................................................................................38
INHERENT RISK FACTORS............................................................................................................................39
ILLUSTRATIVE PROCEDURES........................................................................................................................39
Analytics ..............................................................................................................................................39
General procedures ...............................................................................................................................39
INVESTMENTS ..........................................................................................................................................40
Analytics ..............................................................................................................................................41
Principal procedures .............................................................................................................................41
Procedures to consider with respect to repurchase agreements...............................................................43
Additional procedures to consider when a client is a buyer-lender (and surrendered possession of the
securities) .............................................................................................................................................44
Cash receipts and cash disbursements applications................................................................................44
Procedures responsive to possible errors — cash receipts application ...............................................................44
Procedures responsive to possible errors — cash disbursements application .....................................................46
DERIVATIVES............................................................................................................................................47
Analytics ..............................................................................................................................................47
Principal Procedures .............................................................................................................................48
Cash receipts and cash disbursements applications................................................................................49
Procedures responsive to possible errors - cash receipts application ..................................................................50
Procedures responsive to possible errors - cash disbursements application ........................................................50
Other procedures when the derivative is used as a hedging instrument:.................................................51
AFFILIATES ...............................................................................................................................................52
Analytics ..............................................................................................................................................53
LONG-TERM RECEIVABLES, NON-CURRENT DEPOSITS, AND OTHER ASSETS........................54
Analytics ..............................................................................................................................................55
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PROPERTY, PLANT, AND EQUIPMENT............................................................................................... 56

Analytics.............................................................................................................................................. 58
Cash receipts, cash disbursements, and purchasing applications........................................................... 60
Procedures responsive to possible errors — cash receipts, cash disbursements, and purchases applications ...... 61
INTANGIBLES AND DEFERRED CHARGES ........................................................................................ 63
Analytics.............................................................................................................................................. 64
NOTES PAYABLE ..................................................................................................................................... 64
Analytics.............................................................................................................................................. 66
Cash receipts and cash disbursements applications:.............................................................................. 67
ACCOUNTS PAYABLE............................................................................................................................. 69
Analytics.............................................................................................................................................. 70
Cash disbursements application: .......................................................................................................... 71
Purchases application:.......................................................................................................................... 72
Procedures responsive to possible errors — purchases application.................................................................... 73
INCOME TAXES PAYABLE .................................................................................................................... 74
Analytics.............................................................................................................................................. 75
ACCRUED LIABILITIES AND DEFERRED INCOME.......................................................................... 75
Analytics.............................................................................................................................................. 77
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PRODUCT WARRANTY LIABILITIES ...................................................................................................77

Analytics ..............................................................................................................................................79
LONG-TERM DEBT...................................................................................................................................80
Analytics ..............................................................................................................................................81
Cash receipts and cash disbursements applications:...............................................................................83
Procedures responsive to possible errors — cash receipts application ...............................................................83
Procedures responsive to possible errors — cash disbursements application .....................................................84
DEFERRED INCOME TAXES AND OTHER NON-CURRENT CREDITS ...........................................84
Analytics ..............................................................................................................................................85
COMMITMENTS........................................................................................................................................86
CONTINGENCIES......................................................................................................................................87
SHAREHOLDERS’, PARTNERS’ OR PROPRIETOR’S EQUITY .........................................................89
Analytics ..............................................................................................................................................90
REVENUES, COSTS AND EXPENSES .....................................................................................................92
REVENUES .................................................................................................................................................94
Analytics ..............................................................................................................................................96
General.................................................................................................................................................96
Sales .....................................................................................................................................................96
Other revenue .......................................................................................................................................96
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Sales .................................................................................................................................................... 97
Other revenue ...................................................................................................................................... 97
Sales application: ................................................................................................................................. 99
Sales, returns and allowances (credit memos) application:.................................................................... 99
Cash receipts application: ...................................................................................................................100
Procedures responsive to possible errors — sales application ......................................................................... 101
Procedures responsive to possible errors — sales returns and allowances (credit memos) application............. 102
Procedures responsive to possible errors — sales and cash receipts application .............................................. 103
COSTS AND EXPENSES ..........................................................................................................................104
ACCOUNT BALANCE AUDIT OBJECTIVES ....................................................................................................104
INHERENT RISK FACTORS ..........................................................................................................................104
ILLUSTRATIVE PROCEDURES ......................................................................................................................106
Analytics.............................................................................................................................................106
Cost of sales........................................................................................................................................106
Expenses.............................................................................................................................................107
Principal procedures............................................................................................................................107
General procedures .............................................................................................................................108
Other procedures responsive to our evaluation of processes resulting in routine transactions ...............108
Cash disbursements application: .........................................................................................................109
Purchases application:.........................................................................................................................110
Payroll application: .............................................................................................................................110
Procedures responsive to possible errors — cash disbursements application ................................................... 111
Procedures responsive to possible errors — purchases application.................................................................. 113
Procedures responsive to possible errors — payroll application...................................................................... 113
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Introduction
The procedures listed in this appendix are examples of the types of substantive
procedures that may be useful in achieving audit objectives for specific
account balances. These lists are not all-inclusive and are not to be used as
checklists. Not all of the illustrative procedures will be applicable on each
audit. We select the substantive procedures that, in our judgment and based on
our combined risk assessments, are required by the specific circumstances. We
use the illustrative procedures to the extent they meet our needs, and we devise
other more appropriate procedures when the situation demands.
To assist us in selecting an appropriate mix of audit procedures, we consider
the following guidance in addition to the procedures in this appendix:
· Section 5 of the Supplemental Audit Guidance-U.S./Canadian Audit
Guide.
This appendix is organized by account type. Under each account type, audit
objectives, inherent risk factors, and illustrative procedures are listed.
Illustrative procedures are categorized as follows:
· Procedures normally performed in any audit.
– Analytics (Activity 9: “Perform Analytical and Data Analysis
Procedures”),
– Principal procedures (procedures that provide the primary assurance
for the principal audit objectives), and
– General procedures (procedures that are considered for all audits—
negative results from performing them could indicate matters requiring
further investigation).
· Other (application-related) procedures that are responsive to our
evaluation of the controls over processes resulting in routine transactions
that are related to the account (or group of accounts) being considered.
We need not perform these application-related procedures when we have
evaluated the controls as “effective” and tested them and found that we
can place additional reliance on them, or when the principal procedures
can provide sufficient assurance that the potential errors in question have
not occurred.
We consider performing these procedures when we have evaluated the
controls as effective, but have not tested them (especially when our
combined risk assessment for the account is “moderate” since in such
circumstances we would have assessed inherent risk as higher), and we are
more likely to perform them when we have evaluated the controls as
ineffective.
Procedures related to accounting estimates and non-routine transactions are
not separately identified but are included in the list of procedures for the
related account.
The term “application” as used in the sections designated “Other procedures
responsive to our evaluation of processes resulting in routine data
transactions” is used broadly to include all systems and procedures (automated
or manual) related to initiating, processing, and recording the various
transactions related to the application.
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To assist in selecting an appropriate mix of audit procedures that is responsive

to our evaluation of the controls over the processes resulting in routine
transactions, the principal procedures and other application-related procedures
are cross-referenced by financial statement assertion [i.e.,Existence (E);
Occurrence (O); Valuation (V); Measurement (M); Completeness (C); Rights
and Obligations (RO)] to possible errors that could occur in the account
balance.
Additional guidance on selecting substantive procedures that are responsive to
our combined risk assessments is provided in Activity 8: “Perform Our Risk
Assessments and Customize Audit Solutions,” Activity 9: “Perform Analytical
and Data Analysis Procedures,” and Activity 10: “Perform Tests of Details.”
Cash, Including Bank Balances

Account Balance Audit Objectives
The principal objectives in auditing cash are to determine whether:
· All cash on the balance sheet is held by the entity or by others (e.g., a
bank) for the entity.
· All cash owned by the entity at the balance sheet date is included on the
balance sheet.
· Cash is stated at its realizable value.
· The entity owns, or has a legal right to, all the cash on the balance sheet at
the balance sheet date. All cash is free of restrictions on use, liens, or other
security interests or, if not, such restrictions, liens, or other security
interests are identified.
· Cash is properly classified, described, and disclosed in the financial
statements, including notes, in conformity with prescribed accounting
principles.
Inherent Risk Factors

Procedure 8.1, “Make Combined Risk Assessments” provides information on
our inherent risk assessments. The following items are examples of inherent
risk factors that may increase the inherent risk for this significant account.
When the opposite situations exist, that would decrease inherent risk for the
account.
Nature of the item

· The size of the account is significant.
· There are a significant number of bank accounts and/or various types of
accounts exist.
· Our prior audit experience indicates that there have been frequent errors in
the account balance.
· Cash activity (cash disbursements and receipts) is susceptible to
manipulation (e.g., documentation) or misappropriation (e.g., currency) by
the client staff.
Nature of business/industry
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· The volume of cash activity is high.

· Cash activity occurs on an irregular basis.
· There is unusual or non-standard activity (e.g., manual checks and petty
cash), and sales of assets.
· There is little consistency in the volume of cash activity.
· The volume of cash activity in the foreign currencies changes.
· The exchange rates of foreign currency are volatile.
· The occurrence of transactions evidencing cash activity does not coincide
with the recording of the activity (e.g., checks prepared and recorded but
not mailed or checks received and recorded but not deposited).
Organization of the Company
· The cash activity function is decentralized (e.g., activity made in various
branches and recorded in a centralized data center).
· A third party is involved in the cash function (e.g., disbursements prepared
by an outside data center).
· Personnel responsible for this account have a lower level of competence or
experience.
· The client has inadequate IT systems for the volume of activity, size, and
/or complexity of the account.
Illustrative Procedures
Analytics
Activity 9: “Perform Analytical and Data Analysis Procedures” provides
guidance on the use of analytics.
· Compare the listing of cash accounts with those of prior periods and
investigate any unexpected changes (e.g., credit balances, unusual large
balances, new accounts, closed accounts) or the absence of expected
changes.
· Review interest received and/or paid in relation to the average cash
balances and/or bank overdrafts.
Principal procedures
1. Confirm cash held by others (e.g., bank balances and/or overdrafts); count
or confirm cash on hand, if significant.
2. Examine the client’s bank reconciliations (or prepare the reconciliations).
When appropriate (e.g., to determine whether receipts or disbursements
are recorded on a timely basis, or to verify the appropriateness of
reconciling items), obtain cutoff bank statements.
3. Test cutoff of cash receipts, cash disbursements, and transfers at the
balance sheet date.
General procedures
· Review the cash accounts in the general ledger for unusual items.
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· Review the cash disbursements and cash receipts registers for unusual
items; investigate any such items observed.
· Review bank confirmations, minutes, loan agreements and other
documents for evidence of restrictions on the use of cash, or of liens on, or
security interests in, cash.
· Examine agreements relating to any escrow funds, compensating balances
and sinking funds, and determine compliance with the agreements and
whether necessary disclosures have been made.
· Confirm compensating balance arrangements.
· Consider the implications of client management practices that result in
recurring overdrafts to finance working capital. Consider inquiry of client
management and legal counsel should such overdrafts be encountered in
the audit.
Other procedures responsive to our evaluation of processes resulting
in routine transactions
The following are examples of procedures that may, together with, or in place
of, the procedures previously discussed, be useful in achieving the principal
account balance audit objectives when our evaluation of processes resulting in
routine transactions indicates possible errors.
evaluated the controls as “effective” and tested them and found that we can
place additional reliance on them, or when the principal procedures can
provide sufficient assurance that the potential errors in question have not
occurred.
We consider performing these procedures when we have evaluated the controls
as effective, but have not tested them (especially when our combined risk
assessment for the account is “moderate” since in such circumstances we
would have assessed inherent risk as higher), and we are more likely to
perform them when we have evaluated the controls as ineffective.
The timing and extent of the procedures performed are responsive to our
combined risk assessments.
Cash receipts application:
4. Perform a proof of cash by reconciling activity per client records to
activity per the bank. Also correlate to activity in Sales and Accounts
Receivable.
5. Compare remittance advices or lists of cash receipts with the entries in the
cash receipts register as to date, remitter, amount, and account
distribution.
6. Compare the details of duplicate deposit slips with the entries in the cash
receipts register. Investigate abnormal delays in depositing cash receipts.
7. Compare the total amounts of daily deposits shown on the bank statements
with the totals of the daily cash receipts shown in the cash receipts
register. Investigate unusual delays in depositing cash receipts and any
splitting of daily cash receipts into separate deposits.
8. Test invoices and other original records of cash sales transactions to
recorded cash sales, and recorded cash sales to supporting documents.
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9. Test the recording of miscellaneous receipts (i.e., receipts not usually

recorded in accounts receivable, such as scrap and royalties); consider
whether the recorded amounts are reasonable.
10. Compare entries in the cash receipts register (e.g., date, remitter, amount,
and account distribution) with the remittance advices, lists of cash
receipts, duplicate deposit slips and bank statements.
11. Test the accounting classifications of cash receipts.
12. Test the mathematical accuracy of the cash receipts register.
13. Test the postings of the totals in the cash receipts register to the general
ledger, customers’ ledger, and other subsidiary ledgers.
14. Test the authorization of credits, discounts and allowances in the cash
receipts register.
15. Test the posting of individual cash receipts from the cash register and
supporting documents to the customers’ ledger.
Cash disbursements application:
16. Account for the numerical sequence of checks issued during a specified
period.
17. Compare paid checks and supporting documents with the cash
disbursements register as to date, payee, amount and account distribution;
determine whether supporting documents have been marked to prevent
reuse.
18. Compare entries in the cash disbursements register with the paid checks
and supporting documents as to date, payee, amount and account
distribution; determine whether supporting documents have been marked
to prevent reuse.
19. Test the account classifications of cash disbursements.
20. Test the mathematical accuracy of the cash disbursements register.
21. Test the postings of the totals in the cash disbursements register to the
general ledger and subsidiary ledgers.
22. Test the posting of individual cash disbursements from the cash
disbursements register to the appropriate accounts in the subsidiary
ledgers.
23. Determine whether the signatures on paid checks are authorized.
24. Compare endorsements with the named payee and investigate double or
other unexpected endorsements.
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Procedures responsive to possible errors — cash receipts application
Assertion Possible Error Procedure #
E · Debits to cash accounts are not represented by actual cash 1, 2, 4, 7, 10, 15

receipts.
V · Recorded cash receipts do not agree with the amount deposited. 1, 2, 4, 5, 6, 7, 10
C · Actual cash receipts are not recorded. 1, 2, 4, 5, 6, 7, 8,
9, 14
C · Cash receipts are recorded in the wrong period. 1, 2, 3, 4
C · All cash receipts are not debited to cash accounts. 1, 2, 4, 11, 14, 15
C · Debits to cash accounts are not for cash receipts. 1, 2, 4, 11, 15
C · Cash receipts register is not correctly totaled. 2, 4, 12
C · Totals in cash receipts register not correctly posted to general 2, 4, 13
ledger.
C · Cash receipts information is not correctly posted to the cash 2, 4, 5, 6, 7, 8, 9,
receipts register. 10, 14, 15
Procedures responsive to possible errors — cash disbursements

application
E · All cash disbursements are not credited to cash accounts. 1, 2, 4, 19

V · Recorded cash disbursements do not agree with amount 1, 2, 4, 17, 18
disbursed.
C · Actual cash disbursements are not recorded. 1, 2, 4, 16, 17
C · Cash disbursements are recorded in the wrong period. 1, 2, 3, 4
C · Cash disbursements register is not correctly totaled. 2, 4, 20

C · Cash disbursements information is not correctly posted to 2, 4, 17, 18, 22
register.
C · Totals in cash disbursements register not correctly posted to 2, 4, 21
general ledger.
Note: Bold procedures denote procedures that may be sufficient to test financial statement
assertions.
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Receivables
The principal objectives in auditing accounts receivable are to determine
whether:
· All receivables on the balance sheet are real claims of the entity.
· All real claims of the entity for amounts receivable are included on the
balance sheet.
· Receivables are carried at their net realizable (collectible) value (i.e., the
gross receivables are properly stated with appropriate allowances provided
for uncollectible accounts, discounts, returns, warranties, and similar
items).
· The entity owns, or has a legal right to, all the receivables on the balance
sheet at the balance sheet date. All receivables are free of liens, pledges, or
other security interests or, if not, such liens, pledges, or other security
interests are identified.
· Receivables are properly classified, described, and disclosed in the
financial statements, including notes, in conformity with prescribed
accounting principles.

account.
Nature of the item

· The valuation of receivables is highly subjective.
· The results of our planning analytics do not coincide with our
expectations.
· Complex or unusual transactions occurred at or near the end of the period.
· Related party transactions exist.
· Large and/or unusual sales agreements exist.
· Liens, pledges, or other security interests in receivables exist.
· Certain receivables have been sold with recourse.
· The nature of products sold or services rendered is such that the quantity
of products shipped or the value of services rendered (and related credits
issued) is subject to estimation (e.g., cannot be precisely counted, weighed,
or measured).
12 REV 4/01 e
· Products sold or services rendered (and related credits issued) are difficult
to differentiate.
· Cash receipts are susceptible to misappropriation by the client staff.
Nature of the business/industry
· The economy has weakened during the year.
· The volume of cash receipts is high.
· The volume of products sold or services rendered is high.
· Customer turnover is high.
· There is a significant amount of non-applied cash receipts.
· Customers are smaller, less-established companies.
· Billing disputes occur frequently.
· To achieve sales targets, credit policies have been loosened to accept new
customers whose credit ratings are not above average.
· The prices for products or services change frequently.
· There is little consistency in the nature of products sold or services
rendered, the customers to whom products are sold or services are
rendered, the volume of products sold or services rendered, or the type or
volume of products returned or services credited by the client.
· Sales normally are earned on a conditional basis (e.g., trial and/or rental
basis).
· The timing of sales recognition cannot be clearly established (e.g.,
percentage of completion for long-term contracts or installment sales
recognition).
· The value assigned to sales or to the transactions or events leading to
credit memo recognition cannot be clearly established.
· The invoice pricing structure is complex (e.g., many factors contributing
to the price such as sales/use tax, freight, foreign exchange, and
discounts).
· The occurrence of transactions (e.g., products shipped) evidencing sales
does not coincide with the transfer of the title to the goods.
· The selling function is decentralized (e.g., sales are made from various
locations or when numerous inter/intracompany transfers have occurred).
· The cash receipts function (including application to customer accounts) is
decentralized.
· The invoice or credit memo pricing function is performed in numerous
locations (e.g., pricing an invoice or credit with an out-of-date list in
remote locations).
· The transactions or events leading to sales recognition or credit memo
issuance are not controlled by the client (e.g., shipments made from public
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warehouses, from consignees, or directly from suppliers or returns made to

public warehouses, to consignees, or directly to suppliers).
· There is economic dependence by or on one or more customers, including
related parties.
experience.
· The client has inadequate IT systems for the volume of activity, size,
and/or complexity of the account.
Analytics
· Compare the aged listing of accounts receivable with those of prior
periods and note any significant changes (e.g., changes in major
customers, in major customers’ balances in the percentage of overdue
accounts, in the proportion of credit balances).
· Compare the current period’s accounts written-off and the allowance and
provision for doubtful accounts as percentages of accounts receivable and
sales with prior periods’ percentages. Evaluate trends in light of current
economic conditions.
· Compare current year’s to prior year’s allowance for doubtful accounts as
a percentage of (a) accounts receivable and (b) sales.
· Compare the current period’s receivables as a percentage of net sales with
prior periods’ percentages, and consider the reasonableness of the current
period’s percentage in relation to current economic conditions, credit
policies, collectibility, etc.
· Compare the current period’s accounts receivable turnover and number of
day’s sales outstanding with prior amounts, and consider the
reasonableness of the current period’s amounts in relation to current
economic conditions, credit policies, collectibility, etc.
· Compare the aging with the client’s and with the industry’s collection
practices.
· Compare the current period’s sales returns and sales discounts as
percentages of sales by product line with prior periods’ percentages.
Investigate significant fluctuations.
· Compare the current period’s allowance for unissued credits as a
percentage of total credits issued and accounts receivable with prior
periods’ percentages. Investigate significant fluctuations.
· Compare the number and amounts of credits issued with those of prior periods.
Also see analytics for sales transactions in “Revenues.”
1. Confirm accounts receivable.
14 REV 4/01 e
If accounts are confirmed at an interim date, review the “roll-forward” of

activity from the confirmation date to the balance sheet date and compare
level of activity with prior periods. Investigate unusual items; consider
confirming (at the balance sheet date) significant new accounts and those
accounts with significant increases or decreases between the confirmation
date and the balance sheet date.
Examine subsequent cash receipts, shipping records, sales contracts, and
other evidence to verify the validity of accounts receivable for which
replies to confirmation requests are unsatisfactory or were not obtained or
as part of supporting year-end receivables balances.
2. Test cutoff by inspecting the sales register, billings, shipping documents, and
other supporting documents immediately before and after the cutoff date, and
determine that the transactions were recorded in the proper period; perform
analytics to “identify” spikes in sales volume in the last few days or weeks of
the period (e.g., compare sales and sales returns for several days prior to and
after year end with the average daily sales and sales returns for the year and
the corresponding number of days in the prior year); compare the receivables
cutoff to cutoffs in related areas (e.g., sales and inventories).
3. Evaluate the adequacy of the allowance for doubtful accounts. Example
procedures that may be performed are listed under “General Procedures”
below.
General procedures
Accounts receivable
· Review evidence or obtain information concerning credit worthiness for
large new accounts.
· Trace the totals of accounts receivable in the customers’ ledgers to the general
ledger control accounts or accounts receivable summary; investigate
reconciling items.
· Inquire about management, salespersons, or others receiving products
without billing or payment.
· For large or unusual sales contracts uncompleted at year end, request
confirmation from customers as to pricing, discount, payment, and
warranty terms.
Also see procedure numbers 7, 8, 11, and 14 under “Other procedures
responsive to our evaluation of processes resulting in routine transactions”
below.
Notes receivable
· Review a summary of notes receivable and the related interest accounts
and examine the activity in them during the period with respect to large
balances arising other than in the normal course of business; determine
that amounts are properly classified.
· Inspect notes receivable, including any collateral and any guarantee held;
determine that necessary disclosures are made.
· Confirm notes receivable, including any collateral and any guarantees
held; determine that necessary disclosures are made.
e REV 4/01 15
· Verify accrued interest at the balance sheet date and interest earned during
the period.
Allowances
· Determine rights of return offered to customers under the terms of sales
agreements or as a matter of practice.
· Review analysis of activity in the allowance for uncollectible accounts and
bad debt expense accounts during the period.
· Evaluate the adequacy of the allowance for uncollectible accounts at the
balance sheet date.
· Review analysis of activity in the allowances for discounts, returns,
warranties, and similar items during the period.
· Evaluate the adequacy of the allowances for discounts, returns,
warranties, and similar items at the balance sheet date.
· Test the accuracy of the accounts receivable aging by tracing details to
and from the customers’ ledger accounts or supporting documentation.
Test aging for clerical accuracy.
· Evaluate the adequacy of any collateral and guarantees on notes
receivable.
· Request confirmation of accounts written-off during the period.
· Review payments received subsequent to the balance sheet or confirmation
date.
Other general procedures
· Test the timing and amount of year-end revenue recognition by tracing to
long-term contracts, service agreements, license agreements, or other
appropriate documentation to detect errors and/or estimate amount of
incorrect revenue recorded. Review year-end cost and progress estimation
procedures. Determine that revenue recorded under “bill and hold”
agreements results only from accommodations to customers under normal
credit terms; confirm that title has passed at the date of revenue
recognition.
· Examine details of accounts or notes receivable from officers, directors,
shareholders, and other related parties; investigate unusual items as well
as significant reductions or increases at the balance sheet date; determine
that necessary disclosures are made.
· Obtain listings of receivables sold with recourse; confirm with both the
debtors and the person or entity owning or having rights in the receivables;
evaluate contingencies arising from such sales; determine that necessary
disclosures are made.
· Review minutes, loan agreements, and other documents for evidence of
liens, pledges, or other security interests in receivables; determine that
necessary disclosures are made.
16 REV 4/01 e

occurred.
Sales application:
4. Account for the numerical sequence of sales invoices, sales orders, and
shipping documents during a specified period. Reconcile billings with
shipping documents for a substantial portion of the period.
5. Test the records of products ordered and shipped to the sales records;
agree dates, customers, products, quantities, prices, and amounts.
6. Test the posting of individual sales invoices to the sales register and to the
customers’ ledger.
7. Test recorded sales to the records of products ordered and shipped; agree
dates, customers, products, quantities, prices, and amounts.
8. Review the listing of accounts receivable and investigate unusual balances,
credit balances, and accounts that may not be accounts receivable or may
not be properly classified as accounts receivable-trade (e.g., consignment
accounts, related party or employee accounts).
9. Investigate large or unusual credit memos issued subsequent to the balance
sheet date.
10. Test the pricing and mathematical accuracy of sales invoices.
11. Test the accounting classification of sales transactions.
12. Review the accounts receivable, sales, and returns and allowances
accounts in the general ledger for unusual items.
13. Review the sales register, the sales returns and allowances register, and the
cash receipts register for unusual items; investigate any such items
observed.
14. Test the mathematical accuracy of the sales register.
15. Trace the accounts receivable to the customers’ ledger; investigate
reconciling items.
e REV 4/01 17
16. Test the postings of the totals in the sales register to the general ledger and
the customers’ ledger.
Sales returns and allowances (credit memos) application:
17. Compare credit memos and supporting documents with the sales returns
and allowances register as to dates, customers, products, quantities,
prices, and amounts.
18. Account for the numerical sequence of credit memos during a specified
period.
19. Test the posting of individual credit memos to the sales returns and
allowances register and to the customers’ ledger.
20. Compare recorded credit memos with the documents supporting returns
and allowances as to dates, customers, products, quantities, prices, and
amounts.
21. Test credit postings in the customers’ ledger to the cash receipts ledger or
approved credit.
22. Test the authorization of credits, discounts, and allowances shown in the
cash receipts register.
23. Test the pricing and mathematical accuracy of credit memos (e.g., trace
information to terms and recording of original sales).
24. Test the cutoff in processing credits and allowances granted to customers
by examining credit memos issued and recorded before and after year end.
25. Test the timeliness with which credits granted to customers are processed.
26. Test the accounting classification of credit memos.
27. Test the mathematical accuracy of the sales returns and allowances
register.
28. Test the postings of the totals in the sales returns and allowances register
to the general ledger and the customers’ ledger.
The following procedures have been written in the context of a check-based
banking system:
29. Compare remittance advices or lists of cash receipts with the entries in the
cash receipts register as to date, remitter, amount, and account
distribution.
31. Compare the total amounts of the daily deposits shown on the bank
statements with the totals of the daily cash receipts shown in the cash
receipts register. Investigate unusual delays in depositing cash receipts and
any splitting of daily cash receipts into separate deposits.
32. Compare the entries in the cash receipts register (e.g., date, remitter,
amount, and account distribution) with the remittance advices, lists of cash
receipts, duplicate deposit slips, and bank statements.
18 REV 4/01 e

35. Test the postings of the totals in the cash receipts register to the general
ledger, customers’ ledger, and other subsidiary ledgers.
36. Test the posting of individual cash receipts from the cash receipts register
and supporting documents to the customers’ ledger.
37. Examine the clients’ bank reconciliations (or prepare the reconciliations).
38. Test cutoff of cash receipts, disbursements, and transfers at the balance
sheet date.
Procedures responsive to possible errors — sales application

E · Debits to customers are not represented by goods shipped. 1, 2, 3, 4, 7, 8, 9
E · Debits to accounts receivable accounts are not accounts 1, 8, 11, 12, 13
receivable.
V · Charges to customers are incorrectly computed. 1, 3, 9, 10
C · Goods shipped to customers are not recorded. 2, 4, 5, 6
C · Current or subsequent sales are recorded in the wrong 1, 2
period.
C · All sales on credit terms are not debited to accounts 1, 11
receivable.
C · Sales register is not correctly totaled. 14, 15

C · Totals in sales register are not correctly posted to the general 15, 16
ledger.
C · Sales invoice information not correctly posted to sales 1, 6
journal.
C · Information in sales register not correctly posted to 1, 6, 15, 16
customer’s ledger.
assertions.
e REV 4/01 19
Procedures responsive to possible errors — sales returns and

allowances (credit memos) application
E · Credits to customers for returns or allowances are not 1, 3, 9, 17, 18, 19

recorded.
E · All returns and allowances related to accounts receivable 1, 19, 26
are not credited to accounts receivable accounts.
V · Returns or allowances issued are incorrectly computed. 1, 22, 23
C · Credits issued to customers are not supported by returned 18, 20, 21, 22
goods or approved allowances
C · Returns or allowances are recorded in the wrong period. 1, 9, 24, 25
C · Credits to accounts receivable accounts are not for 1, 12, 13, 20, 21,
reductions of accounts receivables. 26
C · Credit memo register is not correctly totaled. 15, 27

C · Totals in the credit memo register not correctly posted to 15, 28
general ledger.
C · Credit memo information not correctly posted to credit 19
memo register.
C · Information in credit memo register not correctly posted to 1, 15, 28
customers’ ledger account.
E · Cash receipts from customers are not recorded. 1, 3, 29, 30, 31,
37
E · All cash receipts related to accounts receivable are not 1, 33
credited to accounts receivable accounts.
V · Cash receipts credited to customers do not agree with 1, 21, 29, 30, 31,
amount deposited. 32, 37
C · Cash receipts credited to customers were not actually 21, 22, 31, 32, 37
received.
C · Cash receipts are recorded in the wrong period. 1, 37, 38

C · Credits to accounts receivable accounts are not for reduction 1, 12, 13, 21
of accounts receivable.

C · Totals in the cash receipts register are not correctly posted in 15, 34, 37
the general ledger.
C · Cash receipts information is not correctly posted to the cash 1, 29, 30, 31, 32,
receipts register. 37
20 REV 4/01 e
C · Information in the cash receipts register not correctly posted 1, 15, 35, 36
to customer’s ledger account.
assertions.
e REV 4/01 21
Inventories
The principal objectives in auditing inventories are to determine whether:
· All inventories included on the balance sheet are held by the entity or by
others for the entity.
· All inventories owned by the entity at the balance sheet date are included
on the balance sheet.
· Inventories are carried at the lower of cost or market value. The cost and
market determinations are appropriate, including adequate provisions for
excess, slow-moving, obsolete, and damaged goods, and for losses on
purchase and sales commitments.
· The entity owns, or has a legal right to, all the inventories on the balance
sheet. All inventories are free of liens, pledges, or other security interests
or, if not, such liens, pledges, or other security interests are identified.
· Inventories are properly classified, described, and disclosed in the financial
principles.

account.
Nature of the item

· The inventory valuation is subject to significant estimation.
expectations.
· Complex or unusual transactions occurred at our near the end of the
period.
· Significant inventory variances exist.
· Products are susceptible to loss or theft.
· Products or services are difficult to differentiate.
· The nature of products or services is such that the quantity is difficult to
visually inspect, weigh, measure, or count, or is subject to significant
estimation.
· There is little predictability to the types of product in inventory.
22 REV 4/01 e
· The product lines and inventory costs have undergone significant changes
throughout the year.
· There is inconsistency in the nature of the services rendered (e.g., the same
employee or group of employees perform different tasks at different wage
rates depending on the circumstances).
· Inventory consists of a large number of smaller-valued items.
· Payroll documentation is susceptible to manipulation by the client staff.
· The volume of inventory transactions is high.
· The quantity of products held is high.
· Partial shipments and/or backorders occur frequently.
· Purchases are normally made or products are sold on a conditional basis
(e.g., when goods/services are received on a trial basis, on a rental basis,
or on consignment).
· The title of products sold normally passes before the product is shipped.
· The title to products purchased normally passes before or after the receipt
of the product.
· There is little consistency in the nature of the products or services
received, the suppliers from whom products or services are acquired, or
the volume of products or services purchased or sold.
· Warehouse receipts are used as collateral for loans.
· Liens, pledges, or other security interests in inventories exist.
· Intra- and inter-company profits exist in inventories.
· Purchases are not usually made from large computerized suppliers (e.g.,
prices are manually assigned and invoice extensions and totals manually
calculated).
· The value assigned to purchases or services is subject to estimation.
· Payroll expenses are usually determined on a conditional basis (e.g.,

compensation depends on the outcome of a future event such as number of
items produced that will not be rejected by customers’ quality control
system in the case of piece work).
· There are numerous types of supporting evidence—e.g., various categories
of workers with different payment bases (piece work, hours, weekly, etc.).
· Basic data to compute payroll expenses is subject to frequent changes
(e.g., hourly rates).
· The method used for valuing payroll expenses is complex—e.g., different
wage rates, numerous deductions, different input data for quantity of work
performed (pieces, hours, days, etc.).
· There is inconsistency in the nature of services rendered (e.g., services
rendered which change due to seasonal nature of work).
e REV 4/01 23
· Various regulatory requirements are in effect in manufacturing process

and in payroll-related matters.
· The manufacturing of finished products is a complex process.
· Standard costs are changed frequently and/or inventory component costs
are volatile.
· There is a significant number of new products.
· Current plant operating levels are unusually high or low.
· The quality of the company’s product is low.
· Significant changes in operations and/or production problems occurred
during the year.
· The business is in a rapidly growing industry and must respond to
competitors’ technological innovations.
· The purchases, disbursements, and payroll functions are decentralized
(e.g., products or services are acquired from various locations).
· Purchases are normally negotiated by several parties (e.g., by officers,
shareholders or affiliated companies).
· There are significant inventories held or processed by third parties (e.g.,
public warehouse).
· There is inventory held in foreign countries and valued using foreign
currencies.
· There is dependence by or on employees or agents for a group of
employees, including related parties.
· There is economic dependence on or by one or more suppliers, including
related parties.
· The transactions or events leading to purchase recognition are not
controlled by the client (e.g., shipments are made to public warehouses or
directly to customers from suppliers).
· The client has a large number of plant locations.
· Personnel responsible for this account and/or the physical inventory
observation have a lower level of competence or experience.
Analytics
General
· Compare the current period’s inventory turnover based either on cost or on
units sold or produced with prior periods’ turnovers.
24 REV 4/01 e
· Compare inventory quantities and/or costs by location, by type, and by

product with prior periods’ amounts.
· Compare inventory quantities by product with units sold or used.
· Compare the current period’s gross profit ratios (by month, by location,
and by product line) with those of prior periods, and/or industry averages.
· Compare the current year’s cost of sales accounts to the prior years’ and
to the current year’s budget (in value or percentages), and investigate any
large or unusual fluctuations or the absence of expected fluctuations.
· Compare the current year’s payroll expense accounts to the prior year’s
and budgets by classification and investigate any large or unusual
fluctuations, or the absence of expected fluctuations.
· Compare with prior periods the relationship of payroll expense to cost of
sales and sales.
· Compare budgeted usage of raw materials with the actual usage.
· Compare production reports with the recorded warehouse receipts of
finished products.
· Compare the relationships of material, direct labor, and overhead costs to
cost of sales with prior periods. Investigate significant unusual
fluctuations or the absence of expected fluctuations.
Also see analytics for cost of sales under “Expenses.”
Valuation
· Compare the average actual unit cost charged to cost of sales during the
year by product line with the costs used to price year-end inventory.
· Compare unit prices for inventory items with those of prior periods and
investigate significant changes and/or unusual trends in pricing.
· Compare the relationships of actual labor and overhead costs to materials
put into production with the same relationships in ending inventory.
Compare with prior periods.
· Review product line operating statements and overall profitability to
determine if costs are being recovered through selling prices.
Obsolete and excess inventory
· Compare quantities estimated to be sold with forecasts of industry sales.
· Compare the quantities the entity is committed to purchase and has in
hand to the quantities required for future production and/or with
forecasted sales.
· Compare inventory quantities with production and storage capacities.
· Compare current year’s to prior year’s excess and obsolete reserve, write-
offs, and related expense as a percentage of inventory and cost of sales.
· Compare current year’s to prior year’s number of days cost of sales in
inventory by inventory category and product line.
· Compare monthly/annual amounts sold (by product/product line) for
current year and prior year.
e REV 4/01 25
· Compare monthly/annual amounts purchased and/or production (by

product/product line) for current year and prior year.
· Compare excess and obsolete experience to patterns in client’s industry.
1. Observe the taking of physical inventories to establish that:
a. The client’s personnel are complying with the instructions for taking
the inventories.
b. Items belonging to the client, or belonging to others but for which the
client is responsible, are accurately counted and recorded.
c. Items to be excluded from inventory (no-value items, non-inventory
items, items belonging to others) are either subject to satisfactory
control and excluded from the counting process or are accurately
counted and recorded, including a clear description of their non-
inventory status.
d. Count tags, sheets, or cards are properly controlled.
e. Perform tests of the client’s counts (from the floor to recorded counts
and from recorded counts to the floor); record sufficient information
to be able to trace the test counts into the inventory compilation at a
later date; record selected information concerning the tags, sheets, or
cards that are used, partially used, unused, and voided.
f. Inspect shipping, receiving, and transfer documents and the related
inventory items, when appropriate, to establish the numbers of the
last documents used and other information needed for subsequently
verifying cutoffs in the accounting records.
2. Review the physical inventory compilation:
a. Trace test counts, confirmations and, if necessary, records of the
count prepared by the client (e.g., count tags, sheets or cards) to the
inventory compilation. Determine that the unit of measure used in the
physical inventory compilation is consistent with the unit of measure
used during the physical count.
b. Trace items on the final inventory listing to the physical inventory
tags. Determine that the unit of measure used in the physical
inventory compilation is consistent with the unit of measure used
during the physical count.
c. Verify that the information gathered during the physical observation
regarding the tags, sheets, or cards that were used, partially used,
unused, and voided is accurately reflected in the inventory
compilation.
d. Trace the cutoff information obtained during the physical
observation to the accounting records of sales and purchases.
3. Test the valuation of inventory. Example procedures that may be
performed are discussed under “Analytics” above and “Physical inventory
procedures — Other procedures responsive to possible errors in counting
and costing physical inventories” below.
26 REV 4/01 e
4. Review the reconciliation of the physical inventory compilation with the

general ledger account balances and, if applicable, the perpetual inventory
records; investigate large and unusual differences; determine that the
general ledger accounts and the perpetual records were adjusted to reflect
the physical inventory.
General procedures
· Determine that the costing method used is consistent with the client’s
policy and with the method used in the prior year.
· Review the raw materials, work-in-process, and finished goods inventories
accounts and the cost of sales accounts in the general ledger and
subsidiary ledgers for unusual items.
· Review the nature of items included in non-inventory and cost of sales
accounts in the general ledger for amounts that should be included in
inventory.
· Verify the calculations of inter- and intra-company profits in inventories,
and that such profits have been eliminated.
· Inquire as to the existence of damaged, slow-moving, overstock, out-of-
style, and obsolete inventories and of commitments for additional
quantities of similar items. Make note of such items during inventory
observations, review of perpetual records, price tests, and review of gross
margins.
· Review and test the procedures for identifying obsolete, damaged, excess,
and slow-moving inventories. Review the values assigned to such items.
· Investigate any sales and purchase commitments, back orders, or sales
options to determine whether any losses are likely to be realized in the
course of fulfilling the commitments. Verify the reasonableness of the
allowances for such unrealized losses.
· If warehouse receipts are used as collateral for loans, confirm the details
with the lenders.
· Determine the client’s procedures for investigating outside warehouses
prior to entering into warehousing agreements and for maintaining controls
over the inventories in warehouses after the agreements become effective.
· Review minutes, contracts and other documents for evidence of liens,
pledges, or other security interests in inventories; determine that the
necessary disclosures are made.
· Review the raw materials, work-in-process, and finished goods inventories
accounts not tested in detail for unusual items.
· Review the reasonableness of the costs applied to the inventory balances
not tested in detail.
· Investigate significant price variance accounts. High variances may
indicate incorrect standard costs. Review for reasonableness the allocation
of variances between cost of sales and year-end inventory.
· Compare costs of inventory items with current replacement costs per
vendor invoices, open purchase orders, current price lists, quotes, or
published market prices. Consider the effect of lower current cost on
e REV 4/01 27
materials and purchased parts content of inventory, and on commitments

for additional quantities of similar items.
· Compare costs of WIP and finished goods with selling prices as shown by
recent sales invoices, current price lists (adjusted for discounts), and other
sources to determine whether there is sufficient margin to cover costs to
complete and dispose.
Physical inventory procedures
General procedures
· Review and determine the adequacy of the instructions and other written
materials concerning the counting of inventories and the recording of
inventory transactions near the count date.
· If the physical inventory is taken on a staggered basis throughout the
period, determine the extent of the client’s counts during the period;
observe one or more of the inventory counts; test the recording of the
adjustments resulting from the counts to the inventory records; test count
the quantities recorded in the inventory records; and test the recording of
the adjustments in the general ledger accounts.
· If physical inventories are taken at an interim date or on a staggered basis
during the year, review the roll-forward of activity from the date of the
physical inventory to the balance sheet date and investigate unusual items;
consider observing (at the balance sheet date) significant new items and
those items with significant increases or decreases between the physical
inventory date and the balance sheet date.
· Review for reasonableness any adjustments to the compiled inventory.
Procedures for unobserved locations
· Obtain a copy of the physical inventory compilation and review it for
reasonableness (large and/or unusual items).
· Obtain client records of the physical count and review the results and
disposition of any exceptions/problems noted.
· Review the activity in the inventory account since the physical count for
reasonableness (large and/or unusual items).
· Vouch activity in the inventory account since physical count to supporting
documents.
· Perform analytics such as comparing current year balance to prior year
and to budget.
Also see procedures 5 and 6 under “Other procedures responsive to possible
errors in counting and costing physical inventories” below.
Other procedures responsive to possible errors in counting and
costing physical inventories
5. Confirm inventories held by others at the physical inventory date; observe
physical counts of inventories held by others if the inventories are material
in amount.
6. Confirm inventories held by the client for others at the physical inventory
date.
28 REV 4/01 e
7. Determine that the inventory quantities in the inventory compilation are the
same as those in the physical inventory or as established by the
rollforward.
8. Review the inventory compilation for items with zero values or negative
values and investigate them.
9. Determine that the prices tested are used in the inventory compilation.
10. Test the mathematical accuracy (footings and extensions) of the inventory
compilation.
11. Test the mathematical accuracy of the compilation of unit costs of items in
work-in-process and finished goods.
12. Test raw material unit costs by reference to vendor invoices.
13. Vouch the costs and agree the quantities of materials in work-in-process
and finished goods inventory that have been costed at actual costs to
supporting documentation.
14. Vouch the hours and rates for labor in work-in-process and finished goods
inventory that have been costed at actual costs.
15. Review the expense accounts included in or excluded from overhead to
determine whether their inclusion or exclusion is appropriate and
consistent.
16. Consider whether overhead costs are overstated due to the inclusion of the
costs of idle capacity in overhead rather than charging off the costs as
period costs.
17. Review the activity in the accounts included in overhead and vouch any
large/unusual items.
18. Review the activity in the accounts excluded from overhead to determine
whether any items should have been included in overhead.
19. Verify the accuracy of the denominator (e.g., direct labor dollars or hours)
used in calculating the overhead rate.
20. Test the calculation of the overhead rate.
21. Test the application of overhead to work-in-process and finished goods
inventory.
22. Test the buildup of overhead costs in work-in-process inventory and
review the stage of production for reasonableness.
23. Review the materials purchase price variance account taking into
consideration whether:
– There were changes to standards during the year that might affect the
allocation of the variance between inventory and cost of sales at year-
end;
– The variance is representative of the year-end mix of inventory;
– The data in the variance account or the application that generates the
data in the variance account has been tested.
24. Test the unit costs of materials in work-in-process and finished goods
inventories by reference to recent invoices.
e REV 4/01 29
25. Review the reasonableness of the required materials shown on engineering

reports and bills of materials.
26. Test the reasonableness of materials included in the development of
standard costs or as shown on engineering reports and bills of materials by
comparing them to the materials actually used in finished products.
27. Review the materials usage variance account taking into consideration
whether:
allocation of the variance between inventory and cost of sales at year-
end;
28. Test the labor rates used to audited payroll records, union agreements, etc.
29. Review the reasonableness of the labor hours on engineering reports and
bills of materials.
30. Test the reasonableness of the labor hours included in the development of
standard costs or as shown on engineering reports and bills of materials by
comparing them to the actual labor hours in finished products.
31. Review the labor variance accounts taking into consideration whether:
allocation of the variance between inventory and cost of sales at year
end;
32. Test the buildup of the costs of materials in work-in-process inventory and
review the determination of the stage of production for reasonableness.
33. Determine whether the labor hours in work-in-process are reasonable
when compared with those tested when auditing finished goods.
34. Test the buildup of labor costs in work-in-process inventory and the
relationship of the costs to the stage of production for reasonableness.
occurred.
30 REV 4/01 e

In determining whether applications are significant in auditing inventory and
cost of sales, we consider:
· How the applications affect the client’s process for establishing the
inventory balance (i.e., whether they process information that could
contain errors of audit importance) and;
· Whether they produce information that is important in auditing the data or
judgments in inventory.
For example, an application may be significant for the following reasons:
· The client relies on the application to establish the quantities or the
valuation of the inventory;
· The application serves as the basis for rolling forward the inventory
balances;
· The application produces records or information used in establishing the
balances (e.g., purchasing records are used to determine unit costs of
materials or payroll records are used to establish labor rates).
Previously selected procedures that relate to the Purchasing or Payroll
application may not provide adequate assurance for Inventory accounts. This
is because the population from which transactions are selected for testing must
be considered when determining whether the procedures provide assurance for
other accounts. For example, if a sample is selected from all purchases during
the year, it probably will not provide much assurance for Inventory unless the
preponderance of purchase transactions relate to Inventory. Therefore, we
separately evaluate the extent of procedures required when planning Inventory.
Purchases application
35. Test the records of goods and services ordered by comparing purchase
requisitions and purchase orders to vendors’ invoices.
36. Test the record of goods and services received by comparing receiving
documents to vendors’ invoices.
37. Test vendors’ invoices to the voucher register (or other initial record of entry).
38. Test the records of goods and services purchased to the records of goods
and services ordered and received by comparing the voucher register to
vendors’ invoices.
39. Test the records of goods and services purchased to the records of goods and
services ordered and received by comparing vendors’ invoices to purchase
orders and requisitions, receiving documents, or evidence of receipt of services.
40. Consider the reasonableness of the quantities and the business purposes of
the items purchased.
e REV 4/01 31
41. Compare the prices on purchase orders and vendors’ invoices with those in
vendors’ catalogs.
42. Test the mathematical accuracy of invoices.
43. Test the timely recording of purchases to the voucher register.
44. Test the account distributions in the voucher register by comparing the nature
of the goods or services purchased with the descriptions of the accounts.
45. Test the posting of individual purchases in the voucher register to the vendors’
ledger accounts as to the proper vendor, invoice number, date, and amount.
46. Test the mathematical accuracy of the voucher register.
47. Test the postings of the totals in the voucher register to the general ledger
and subsidiary ledgers.
Payroll application
48. Account for the numerical sequence of paid payroll checks during a
specified time period.
49. Compare the payrolls at the beginning and end of the period to identify
changes in employees and pay rates.
50. Compare hours paid with the record of hours worked (e.g., time cards).
51. Trace the payroll checks to the payroll register.
52. Agree the record of labor performed (time cards or job tickets) to the labor
cost distribution.
53. Obtain a list of employees who left during the period from a source other
than the payroll department (e.g., the personnel department), and
determine that the former employees were removed from the payroll on a
timely basis.
54. Observe, on a surprise basis, the distribution of payroll checks to
employees.
55. Investigate the handling of unclaimed payroll checks.
56. Compare employee data (e.g., name, identification number, department,
employee status or group, location, wage rate, deductions) to
authorizations on file (e.g., hiring records, personnel files for wage rates
and deductions, union contracts, and authorization forms for income tax
withholding).
57. Compare names, net pay, and other data in the payroll register to the
canceled payroll checks. Examine endorsement(s) on payroll checks and
compare them to specimen signatures in the personnel files; investigate
unusual or multiple endorsements.
58. Test the extensions of the wage rates times the hours worked.
59. Test the timely recording of payroll cost to payroll records.
60. Review the appropriateness of the labor cost distributions based on the
nature of work performed (e.g., examine time cards or job tickets).
61. Test the mathematical accuracy of payroll register and the labor cost
distribution.
32 REV 4/01 e
62. Test the postings of totals in the payroll register and the labor cost
distribution to the general ledger and the subsidiary ledgers.
63. Compare the labor cost distribution totals to the payroll register.
64. Test the mathematical accuracy of the individual labor cost distributions.
Inventory/cost of sales application
65. Test the posting of purchases, production, transfers, and shipments of
inventories to the perpetual (or other) inventory records.
66. Test the recording of acquisitions, transfers, and dispositions of
inventories to the general ledger accounts.
67. Test transactions recorded in the perpetual (or other) inventory records to
the supporting documentation.
68. Test transactions recorded in the general ledger inventory accounts to
supporting documentation.
69. Test the costing of inventories produced and sold by reference to cost data.
70. Test the timely recording of purchases, shipments, and other activity to the
inventory records.
71. Test the mathematical accuracy of the inventory and related journals (e.g.,
cost of sales journal, production journal, labor distribution reports).
e REV 4/01 33
Procedures responsive to possible errors — physical inventory

observation
Possible Errors in Counting the Inventory:

E • Inaccurate count/description resulting in inventory 1.a, 1.c, 1.e, 6
overstatement (quantity, identification, percent
completion).
C • Inaccurate count/description resulting in inventory 1.a, 1.b, 1.e, 6
understatement (quantity, identification, percent
completion).
Possible Errors in Compilation of Physical Counts:
E • Inaccurate compilation resulting in inventory overstatement 1.d, 1.e, 2.a, 2.b,
(e.g., quantities changed, compiled twice, inventory added). 2.c
C • Inaccurate compilation resulting in inventory 1.d, 1.e, 2.a,
understatement (e.g., quantities changed, tags not 2.b,2.c
compiled, inventory deleted).
E, C • Inventory description inaccurately compiled (under or 2.a, 2.b
overstatement).
V • Conversion errors (counted in inches, costed in pounds). 2.a, 2.b
Possible Errors in Cutoff:
E, C • Receipts 1.f, 2.d, 6
E, C • Shipments 1.f, 2.d, 6
E, C • Transfers 1.f, 2.d, 6
Possible Errors in Consigned Inventory:
C, R&O • Inventory on consignment to others. 5
E, R&O • Inventory on consignment from others. 6
34 REV 4/01 e
Procedures responsive to possible errors — physical inventories
Possible Mechanical (Compilation) Errors:

C, V • Incorrect physical or perpetual quantities used in 7
compilation.
C, V • Incorrect costs applied in compilation. 8, 9
C • Errors in extensions or footings in compilation. 10
C, V • Errors in compiling unit costs. 11
Possible Valuation Errors (Actual Costs):
C, V • Material quantities in WIP/FG (e.g., unit assemblies) are 13
incorrect.
V • Material prices are incorrect. 12, 13
V • Labor hours are incorrect. 14
V • Labor rates are incorrect. 14
V • Errors in overhead accounts/amounts included in OH pool. 15, 16, 17, 18,
22
V • Errors in calculation of OH rate. 19, 20, 22
V • Errors in application of OH rate. 21, 22
Possible Valuation Errors (Standard Costs):
C, V • Material quantities in WIP/FG (e.g., unit assemblies) are 25, 26, 27
incorrect.
V • Material prices are incorrect. 12, 23, 24
V • Labor hours are incorrect. 29, 30, 31, 33
V • Labor rates are incorrect. 28, 31
V • Build-up of material and labor costs (WIP) does not 25, 29, 32, 34
accurately reflect stage of production (percentage
completion).
V • Errors in accounts/amounts included in OH pool. 15, 16, 17, 18,
22
V • Errors in calculation of OH rate. 19, 20, 22
V • Errors in application of OH rate. 21, 22
e REV 4/01 35
assertions.
36 REV 4/01 e
Procedures responsive to possible errors — purchases application
E · Debits to Inventory accounts are not represented by goods or 38, 39, 40

services received.
V · Additions to Inventory accounts are computed incorrectly. 41, 42
C · Charges for inventory related goods or services are not 35, 36, 37
recorded.
C · Additions to Inventory accounts are recorded in the wrong 43
period.
C · Inventory is incorrectly classified. 44, 45
C · Voucher register is not correctly summarized. 46
C · Inventory additions are not correctly posted to the voucher 37, 44, 45
register.
C · Totals for inventory in the voucher register are not correctly 47
posted to general ledger and subledger.
assertions.
e REV 4/01 37
Procedures responsive to possible errors — payroll application
E · Charges to Payroll accounts are not represented by services 48, 49, 50, 53,
performed. 54, 55, 56, 57
V · Payroll charges are incorrectly computed. 49, 56, 58
C · Services performed by employees are not recorded. 48, 49, 50, 51, 52
C · Payroll charges are recorded in the wrong period. 59
C · Payroll charges are incorrectly classified. 52, 56, 60
C · Payroll register labor distribution and time cards are 61, 64
incorrectly summarized.
C · Payroll register/labor distribution is not correctly posted to 62
the general ledger.
C · Payroll data are not correctly posted to the payroll 51, 52, 57, 63
register/labor distribution.
Procedures responsive to possible errors — inventory/cost of sales

application
Assertio Possible Error Procedure #

n
E · Debits and credits to Inventory accounts are not represented 67, 68
by actual inventory transactions.
V · Inventory transactions are computed incorrectly 65, 66, 67, 68,
69
C · Inventory transactions are not recorded. 65, 66
C · Inventory transactions are recorded in the wrong period. 70
C · Inventory transactions are incorrectly classified. 65, 66, 67, 68
C · Inventory related journals (e.g., cost of sales journal, labor 71
distribution reports) are not correctly summarized.
C · Inventory data are incorrectly posted to perpetual (or other) 65, 67
records.
C · Inventory data are incorrectly posted to the general ledger. 66, 68
assertions.
Prepaid Expenses
The principal objectives in auditing prepaid expenses are to determine whether:
· All prepaid expenses on the balance sheet represent expenditures that will
benefit the succeeding period.
· All expenditures that will benefit the succeeding period and that can be
properly included in prepaid expenses at the balance sheet date are
included on the balance sheet.
· Prepaid expenses are included on the balance sheet at the appropriate
amounts.
· The entity is entitled, at the balance sheet date, to the future benefits
related to the prepaid expenses included on the balance sheet.
38 REV 4/01 e
· Prepaid expenses are properly classified, described, and disclosed in the


account.
Nature of the item

· Prepayment calculations are performed manually.
· Significant unexpected changes in the level of prepayments have occurred.
· There are numerous contracts, agreements, and/or insurance policies under
which amounts are prepaid by the client.
· Contracts, agreements, and insurance policies are not centrally maintained
or monitored.
experience.
Analytics
· Compare the account balances with those of prior periods and investigate
any unexpected changes (or the absence of expected changes).
General procedures
· Review the prepaid expense and related expense accounts in the general
ledger for unusual items.
· Examine invoices, contracts, agreements, and other support for additions
to the accounts.
· Test expense accounts for items inappropriately charged directly to
expense.
· Confirm significant balances or transactions with insurers or others.
· Test calculations of the prepaid amounts.
· Inspect (or confirm) insurance policies as to coverage, beneficiaries, and
evidence of liens on property.
e REV 4/01 39
· Determine that prepaid expenses are properly classified, described, and

disclosed in the financial statements.
Investments
The principal objectives in auditing investments and the related investment
income are to determine whether:
· All recorded investments on the balance sheet are held by the entity or by
custodians for the entity. All recorded income from investments has
accrued to the entity at the balance sheet date.
· All investments owned by the entity at the balance sheet date are included
on the balance sheet. All income accruing from investments at the balance
sheet date has been recorded.
· Investments are included on the balance sheet at the appropriate amounts.
Investment income is stated on the income statement at the appropriate
amount.
· The entity owns, or has a legal right to, the investments included on the balance
sheet. All investments are free of liens, pledges, or other security interests or, if
not, such liens, pledges, or other security interests are identified.
· Investments and related investment income accounts are properly
classified, described, and disclosed in the financial statements, including
notes, in conformity with prescribed accounting principles.

account.
Nature of the item

· Investments are speculative in nature.
expectations.
period.
· There are debt covenant or regulatory restrictions on the types and/or
amounts of investments.
· Investments are susceptible to misappropriation by the client staff.
· Documentation is susceptible to manipulation by the staff.
40 REV 4/01 e

· The volume of transactions is high.
· Disbursements are made on an irregular basis.
· There is little consistency in the volume of purchase and sale activity.
· There are unusual or non-standard transactions (e.g., manual
disbursements made in a computerized system).
· There are a significant number of derivative arrangements in place.
· Derivatives are complex.
· The occurrence of transactions evidencing disbursements does not coincide
with the recording of the disbursement (e.g., checks prepared and recorded
but not mailed).
· Significant foreign investments occur.
· The exchange rates of foreign currencies are volatile.
· The investment functions, including cash receipts and disbursements
functions, are decentralized.
· The investments, cash receipts, and/or cash disbursements functions
involve a third party (e.g., a discretionary trust arrangement exists with a
bank).
experience.
Analytics
· Compare current year’s to prior year’s market value of the security.
· Perform an overall test of the reasonableness of interest income by
multiplying the average interest rates by the average amounts invested.
1. Verify the existence and ownership of recorded investments through
confirmation or examination of evidence of ownership (e.g., stock certificates).
2. Review minutes, agreements, and confirmation replies for evidence of the
existence of investments; of liens, pledges, or other security interests in
investments; and of commitments to acquire or dispose of investments.
3. Inspect market quotations, financial statements of investees, and other
evidence of the current value or equity amount of investments.
e REV 4/01 41
4. Determine that investments are carried at the appropriate amounts. Detailed

procedures that may be performed are listed under “General procedures”
below.
General procedures
· Note evidence of unusual investment transactions (e.g., churning of high
risk securities).
· Discuss with the client the processes used by management to classify
investments as either trading securities or available-for-sale securities and
for certain debt securities, as held-to-maturity securities.
· Determine whether management’s investment activities corroborate or
conflict with its stated intent. This ordinarily would include examination of
– Written evidence such as written and approved records of investment
strategies.
– Records of investment activities.
– Instructions to portfolio managers.
– Minutes of meetings of the board of directors or the investment
committee.
· Determine if the client has the ability to hold a debt security to maturity.
Consider such factors as the client’s
– Financial position.
– Working capital needs.
– Operating results.
– Debt agreements, guarantees, or other relevant contractual obligations.
– Laws and regulations.
– Operating and cash flow projections.
· Determine whether the decline in fair value of available-for-sale or held-to-
maturity securities below amortized cost is other than temporary. The
following are examples of factors that might indicate an other-than-
temporary impairment:
– Fair value significantly below cost.
– Decline in fair value attributable to specific adverse conditions
affecting a particular investment.
– Decline in fair value attributable to specific conditions, such as
conditions in an industry or geographic area.
– Management does not possess both the ability and intent to hold the
investment for a period of time sufficient to allow for any anticipated
recovery of fair value.
– Decline in fair value has existed for an extended period of time.
– Debt security has been downgraded by a rating agency.
– Financial condition of issuers has deteriorated.
42 REV 4/01 e
– Dividends have been reduced or eliminated, or scheduled interest

payments on debt securities have not been made.
· Determine whether an other than temporary decline in fair value for
available-for-sale or held-to-maturity securities is properly recorded.
· Determine that the write down of an investment to a new cost basis as a
result of a decline in fair value that is judged to be other than temporary is
accounted for as a realized loss. Also, test calculation of the loss recorded.
· Determine that the new cost basis of investments previously written-down
is not changed for subsequent recoveries in fair value.
· Review a summary of investments written-down for completeness and
unusual items.
· Conclude on the adequacy of impairment adjustments recorded.
· Verify computations of gains and losses from the sale of trading or
available-for-sale investments.
· Verify calculation of amortization of bond premium or accretion of bond
discount.
· Consider specialized industry practices.
· When the client has material amounts of marketable securities that are
held by others, we normally analytically review investment income and
support fair value, as described above, and
– Confirm the investments held by the trustee.
– Obtain a certified detailed statement of activity from the trustee, and
determine that transactions reported by the trustee have been recorded
properly by the client.
In designing our approach, we consider the guidance in section 6.2,
“Considerations When We Are Auditing a User Organization,” of the
Supplemental Audit Guidance-U.S./Canadian Audit Guide.
Also refer to procedure numbers 5, 7, and 8 under “Other procedures
below.
Procedures to consider with respect to repurchase agreements
· Confirm terms of outstanding repurchase commitments. Terms should include
the types and coupon rate of collateral and the repurchase date and prices.
· Determine the reputation and reliability of collateral holders. These
holders should be recognized banks or trust companies that are
independent of the broker/dealer arranging the transaction and that
specialize in providing safekeeping services.
· Review the reputation and financial position of broker/dealers or other
parties to the transactions.
· Determine the financial credibility and legal responsibility of any company
or agency that is insuring completion of the transaction.
· Review broker’s advices and other documentation regarding the completion of
repurchase transactions during the period subsequent to the balance sheet date.
e REV 4/01 43
· When applicable, determine the legality of transactions and their

compliance with established policies and applicable regulatory guidelines.
· Review and evaluate internal audit procedures covering repurchase
agreement activities.
Additional procedures to consider when a client is a buyer-lender (and
surrendered possession of the securities)
· Examine securities held or request a confirmation of securities held in
safekeeping and determine who holds legal title to securities.
· If a custodian is of uncertain or questionable reputation and reliability,
obtain a third-party review or perform procedures with respect to controls
over the safekeeping of the security by the custodian.
· Determine collateral value of securities.
occurred.
Cash receipts and cash disbursements applications
5. Verify interest and dividend income, and equity in earnings (losses) of
investees, by calculating interest earned or by referring to published
records of dividends paid or to the financial statements of investees.
6. Inspect brokers’ advices and other support to verify that additions and
disposals have been recorded properly.
7. Review the investments and related accounts (e.g., interest and dividend
income) in the general ledger for unusual items.
8. Determine whether investments are appropriately classified as non-current
assets.
44 REV 4/01 e
E · All investment disposals are not recorded as reductions of 1, 5, 6, 7, 8

investment accounts.
E · Investment disposals are not recorded. 1, 5, 6
C · Credits to investment accounts are not for disposals of 1, 5, 6
investments.
V · Investment disposals are not recorded at the correct 1, 5, 6
amounts.
C · Investment disposals are recorded in the wrong period. 1, 6

C · Credits to investment accounts are not for investment 1, 5, 6, 7, 8
dispositions.
C · Cash receipts register is not correctly totaled. 1

C · Cash receipts and cash receipts register totals are not 1
correctly posted to cash receipts register and general ledger,
respectively.
e REV 4/01 45

application
E · Debits to investment accounts are not for additions to 1, 6

investments.
E · Debits classified as investments are not for investments. 1, 6, 7, 8
V · Investment additions are not recorded at the correct 1, 6
amounts.
C · Investment additions are not recorded. 1, 6
C · Investment additions are recorded in the wrong period. 1, 6
C · All investment additions are not classified as investments. 1, 6, 7, 8
C · Cash disbursements register and investment records are not 1

correctly totaled.
C · Cash disbursements and cash disbursements register totals 1
are not correctly posted to cash disbursements register and
general ledger, respectively.
assertions.
46 REV 4/01 e
Derivatives
The principal objectives in auditing derivatives and related gains and losses on
derivatives are to determine whether:
· All recorded derivatives on the balance sheet are held by the entity or by
custodians for the entity. All recorded gains and losses from derivatives
have been earned by the entity at the balance sheet date.
· All derivatives (including embedded derivatives) owned by (or owed by)

the entity at the balance sheet date are included on the balance sheet. All
gains and losses (including changes in market value) from derivatives at
the balance sheet date have been recorded.
· Derivatives are included on the balance sheet at the appropriate amounts.

Derivative gains and losses are stated on the income statement or on the
balance sheet as a component of other comprehensive income at the
appropriate amount.
· The entity owns, or has a legal right to, the derivatives included on the
balance sheet. All derivatives are free of liens, pledges, or other security
interests or, if not, such liens, pledges, or other security interests are
identified.
· Derivatives and related gains and losses from derivatives are properly
In addition, when derivatives are used as a hedging instrument, we determine

whether:
Management complied with the hedge accounting requirements of generally accepted accounting
principles, including designation and documentation requirements.
· Management’s expectation at the inception of the hedge that the hedging
relationship will be highly effective and its periodic assessment of the
ongoing effectiveness of the hedging relationship as required by generally
accepted accounting principles are reasonable.
Analytics
Refer to Activity 9: “Perform Analytical and Data Analysis Procedures” for
· Compare amounts of gains and losses on foreign exchange and interest

rate swaps, options, futures, and forward rate agreements, etc., with
expected fluctuations (based on changes in interest rates, foreign exchange
rates, etc.) and evaluate the actual fluctuations for reasonableness.
e REV 4/01 47
· Compare current year’s to prior year’s fair value of the derivative.
Principal Procedures
1. Verify the existence and ownership of recorded derivatives through
confirmation with the broker/dealer or counterparty or examination of
evidence of ownership. Confirm both settled and unsettled transactions with
the broker/dealer or counterparty. Request the inclusion of other
information about the derivative, such as whether there are any side
agreements.
2. Review minutes, contract agreements, and confirmation replies for evidence

of the existence of derivatives; of liens, pledges, or other security interests
in derivatives; and of commitments to acquire or dispose of derivatives.
3. Inquire about aspects of operating activities that might present risks hedged
by derivatives. For example, if the entity conducts business with foreign
entities, inquire about any arrangements the entity has made for purchasing
foreign currency. Or, if an entity is in an industry in which commodity
contracts are common, inquire about any commodity contracts with fixed
prices that run for unusual durations or involve unusually large quantities.
Consider inquiring as to whether the entity has converted interest-bearing
debt from fixed to variable, or vice versa, using derivatives.
4. Complete the Derivatives Identifier Tool (Form U261) to identify any

embedded or surprise derivatives not otherwise identified in steps 1-3.
5. Determine that derivatives are recorded at fair value. Detailed procedures

that may be performed are listed under “General procedures” below.
General procedures
· Read all or a sample of derivative contracts (sample size responsive to the
total number of contracts that have been entered into and the combined
risk assessment for this area) for unusual terms that might imply a higher
degree of risk.
· Determine whether management’s derivative activities corroborate or

conflict with its stated intent. This ordinarily would include examination
of:
- written evidence such as written and approved records of
derivative strategies
- records of derivative activities
- minutes of meetings of the board of directors or the investment or
asset/liability committee.
· Determine the fair value of recorded derivatives though the use of the fair
value hierarchy described in FAS 107. The fair value hierarchy, from
most to least relevant, can be summarized as follows:
- Quoted prices in an active market
- Quoted prices in a less active market
- Estimates based on quoted market prices of instruments with
48 REV 4/01 e
similar characteristics
- Valuation techniques using a model


place reliance on them, or when the principal procedures can provide sufficient
assurance that the potential errors in question have not occurred.

as effective, but have not tested them, and we are more likely to perform these
procedures when we have evaluated the controls as ineffective.
Cash receipts and cash disbursements applications

6. Inspect brokers’ advices and other support to verify that additions and
disposals have been recorded properly.
7. Request counterparties who are frequently used, but with whom the
accounting records indicate there are presently no derivatives, to state
whether they are counterparties to derivatives with the entity.
8. Review the derivatives and related accounts (e.g., gain or loss from
derivatives, interest income and interest expense) in the general ledger for
unusual items.
Note: One of the characteristics of derivatives is that they may involve only a
commitment to perform under a contract and not an initial exchange of
tangible consideration. Therefore, when designing tests related to the
completeness assertion we should not focus exclusively on evidence relating
to cash receipts and disbursements.
e REV 4/01 49
Procedures responsive to possible errors - cash receipts application
E Not all derivative disposals are recorded as reductions of derivative 1, 2, 6, 8

accounts.
V Derivative disposals are not recorded at the correct amounts. 1, 6, 8
C Derivative disposals are not recorded. 1, 2, 6
C Derivative disposals are recorded in the wrong period. 1, 2, 6, 7
C Credits to derivative accounts are not for derivative dispositions. 1, 2, 6, 7, 8
C Cash receipts register is not correctly totaled. 1, 2, 7

C Cash receipts and cash receipts register totals are not correctly posted to 1, 2, 7
cash receipts register and general ledger, respectively.
Procedures responsive to possible errors - cash disbursements

application

E Debits classified as derivatives are not for derivatives. 1, 2, 4, 6, 8
E Debits to derivative accounts are not for additions to derivatives. 1, 2, 6
V Derivative additions are not recorded at the correct amounts. 5, 6, 8
C Derivative additions are not recorded. 1, 2, 3, 4, 6, 7
C Derivative additions are recorded in the wrong period. 1, 2, 6, 7, 8
C Not all derivative additions are classified as derivatives. 1, 2, 4, 6, 7, 8
C Cash disbursements register and derivative records are not correctly 1, 2, 7

totaled.
C Cash disbursements and cash disbursements register totals are not 1, 2, 7
correctly posted to cash disbursements register and general ledger,
respectively.
assertions.
50 REV 4/01 e
Other procedures when the derivative is used as a hedging instrument:

· Obtain a copy of the client’s hedge designation documentation. This
documentation should be contemporaneous (i.e. prepared at the inception
of the hedge) and formal and should identify the hedged item, the hedging
instrument, the nature of the hedging relationship, the client’s overall risk
management objective and how hedge effectiveness will be assessed.
Additionally, the documentation must include support for why the hedge is
expected to be “highly effective.”
· Determine that the hedged item, the hedged risk and the hedging
instrument are valid components of a hedging relationship as defined by
FAS 133.
· Determine that the hedging relationship is eligible (on an ongoing basis)

for hedge accounting treatment (e.g., remains “highly effective” on a
prospective and retrospective basis; if the hedged item is a forecasted
transaction that it is probable of occurring).
· For fair value hedges, determine that the change in fair value of the
derivative during the period and the change in fair value of the hedged item
to the extent attributable to the risk designated as being hedged were
recognized in income.
· For cash flow hedges, determine that the hedged forecasted transaction
continues to be probable, and determine that the effective portion of the
derivative’s gain or loss is recorded in other comprehensive income and the
ineffective portion is recorded in income.
· Determine that the client has performed both a retrospective and a

prospective evaluation of hedge effectiveness.
· Determine that the hedging relationship, as recorded, is within 80-125

percent effective.
· If the hedging relationship is not, on a retrospective basis, within 80-125

percent effective, and the client continues to believe, based on a
prospective assessment, that hedge accounting continues to be appropriate,
perform procedures necessary to assess the appropriateness of the client’s
prospective assessment. Note: A number of the procedures described
above are included in the Hedge Designation and Effectiveness checklist
(Form U260). Preparation of Part I of this checklist is required for all
hedging relationships for SEC audit engagements, unless (1) the
adjustment to the financial statements if the relationship did not qualify for
hedge accounting would be immaterial or (2) the client is actively involved
in hedging transactions and our combined risk assessment for this area is
“low” because we have identified and tested controls.
e REV 4/01 51
Affiliates
The principal objectives in auditing receivables from and payables to,
advances to and from, and investments in affiliates and the related income and
expense accounts are to determine whether:
· All receivables from and payables to, advances to and from, and
investments in affiliates on the balance sheet exist and all recorded income
and expenses from receivables, payables, advances, and investments have
· All receivables from, payables to, advances to and from, and investments
in affiliates are included on the balance sheet. All related income and
expenses accruing at the balance sheet date have been recorded.
· Receivables from, payables to, advances to and from, and investments in
affiliates are included on the balance sheet at the appropriate amounts.
The related income and expenses are stated on the income statement at the
appropriate amount.
· The entity owns, or has a legal right to, all receivables from, advances to, and
investments in affiliates. The payables to and advances from affiliates
represent obligations of the entity at the balance sheet date. All receivables,
advances, and investments are free of liens, pledges, or other security interests
or, if not, such liens, pledges, or other security interests are identified.
· Receivables, advances, investments, and related income accounts are
properly classified, described, and disclosed in the financial statements,
including notes, in conformity with prescribed accounting principles.

account.
Nature of the item

· Our prior audit experience indicates that there have been frequent errors
in the account balance.
· Significant judgment is involved in determining whether an impairment in
an investment exists.
expectations.
· Complex or unusual transactions occurred at or near the end of the
period.
52 REV 4/01 e
· There is a significant number of investments in affiliates.

· A significant amount of inter-company activity occurs.
· Audited financial statements either are not available or are not available
on a timely basis for affiliates.
· Personnel responsible for this account have a lower level of competence
or experience.
Analytics
· Perform an overall test of the reasonableness of related income or
expenses by multiplying contractual interest rates by the average interest-
bearing receivables, payables, or advances outstanding.
1. Verify existence and ownership of investments in affiliates through
confirmation or examination of evidence of ownership (e.g., stock certificates).
2. Confirm receivables from and advances to affiliates, or agree the account
balances with those in the affiliates’ records.
3. Determine that the carrying amounts of accounts with and investments in
affiliates are appropriate. Detailed procedures that may be performed are
listed under “General procedures” below.
General procedures
· Review the receivables from, advances to, and investments in affiliates and
related accounts in the general ledger for unusual items.
· Determine and understand the nature, basis of recording, and business
purpose of investments and other transactions between affiliates.
· Determine that the carrying amounts of accounts with affiliates are
appropriate:
– Inspect the affiliates’ audited financial statements and other evidence
to determine whether receivables from and advances to affiliates are
collectible, and whether there is any impairment in the value of
investments in affiliates. If unaudited, consider necessity of
performing additional audit procedures to support underlying equity.
– Determine that allowances provided for uncollectible receivables form
or advances to affiliates are adequate and that other than temporary
impairments in investments have been recorded.
· Verify interest and dividend income and establish that they agree with the
corresponding amounts in the affiliates’ records.
e REV 4/01 53
· Determine, when applicable, that appropriate provision has been made for
deferred income taxes on undistributed earnings of affiliates that are
consolidated or accounted for on the equity basis.
· Review minutes and agreements for evidence of the existence of advances and
investments and changes in them, and for evidence of liens, pledges, or security
interests related to receivables from, advances to, and investments in affiliates.
· Determine that transactions with affiliates are appropriately disclosed.
· Determine the propriety of consolidation entries and eliminations (e.g.,
intercompany profit).
· Test the currency translation of foreign subsidiary financial statements.
· Investigate significant intercompany transfers immediately before and after
year end.
· Review reconciliations of intercompany accounts.
Long-Term Receivables, Non-Current Deposits, and Other Assets

The principal objectives in auditing the accounts in this classification, and the
related income and expense accounts, are to determine whether:
· All long-term receivables and deposits on the balance sheet represent valid
claims against the indicated debtors. All the other assets on the balance
sheet exist. All recorded income and expense relating to these assets have
· All assets in this classification owned by the entity are included on the
balance sheet. All income and expense accruing from these assets at the
balance sheet date have been recorded.
· Assets in this classification are included on the balance sheet at the
appropriate amounts. The related income and expense are stated on the
income statement at the appropriate amounts.
· The entity owns, or has a legal right to, all the assets in this classification.
All the assets are free of liens, pledges, or other security interests or, if
not, such liens, pledges, or other security interests are identified.
· Assets in this classification and the related income and expense accounts
are properly classified, described, and disclosed in the financial
principles.

account.
Nature of the item
54 REV 4/01 e

· Significant judgment is involved in evaluating the collectibility of
receivables and/or the recovery/realizability of other assets.
expectations.
period.
· Liens, pledges, or other security interests exist in the account(s).
· There is a significant number of receivables and/or deposits.
experience.
Analytics
· Perform an overall test of the reasonableness of interest income by
multiplying the average interest rates by the average interest-bearing
balances outstanding.
1. Confirm long-term receivables, including collateral and guarantees held,
deposits, cash surrender value of life insurance, and, if practicable, other
assets.
2. Determine whether the carrying amounts are appropriate (e.g., establish
the collectibility of long-term receivables, the recoverability of non-current
deposits, and the realizability of other assets by reference to the financial
statements of debtors, credit reports, contracts supporting deposits, and
other data; evaluate the allowances for losses on these accounts).
General procedures
· Review the accounts in this classification and the related income and
expense accounts in the general ledger for unusual items.
· Examine invoices, contracts, agreements, cash records, premium notices,
and other support for additions to or reductions in the accounts in this
classification.
e REV 4/01 55
· Test accrued interest and interest earned during the period; determine whether
interest should be imputed on long-term receivables arising during the period.
· Test life insurance expense during the period related to life insurance
policies on which the entity is the beneficiary.
· Review minutes, insurance policies, and other agreements for evidence of
the existence of assets in this classification, and of liens, pledges, or other
security interests in these assets.
Property, Plant, and Equipment

The principal objectives in auditing property, plant, and equipment are to
determine whether:
· All property, plant, and equipment on the balance sheet (including assets
leased under capital leases) are held by the entity or by others for the
entity.
· All property, plant, and equipment owned or leased under capital leases by
the entity at the balance sheet date are included on the balance sheet.
· Property, plant, and equipment are carried at the appropriate amount
(taking into account accumulated depreciation, depletion, or amortization).
The cost of the property, plant, and equipment is allocated to the
appropriate accounting periods in a systematic and rational manner. The
undepreciated cost of the property, plant, and equipment used in the
business is expected to be recoverable through future use. Impaired assets
are recorded at estimated fair value. Property, plant, and equipment held
for disposal are carried at the lower of their carrying amount or fair value
less cost to sell.
· The entity owns, or has a legal right to, all the property, plant, and equipment
on the balance sheet at the balance sheet date. All property, plant, and
equipment are free of liens, pledges, security interests, and restrictions or, if
not, such liens, pledges, security interests, and restrictions are identified.
· Property, plant, and equipment, and related accounts are properly

account.
Nature of the item

56 REV 4/01 e
· Significant judgment is involved in determining impairment.

expectations.
· Loan covenant restrictions exist on additions.
· Liens, pledges, or other security interests exist in the account.
· Disbursement documentation is susceptible to manipulation by the client
staff.
· The nature of property, plant, and equipment makes it susceptible to loss,
theft, or damage (e.g., computer equipment).
· The quantity of property, plant, and equipment held is high.
· Significant amounts of property, plant, and equipment are constructed in-
house.
· The volume of property, plant, and equipment additions, replacements,
trade-ins, and disposals is high.
· Significant capitalized interest exists.
· Significant capital investments are made to keep pace with competitors.
· Property, plant, and equipment is susceptible to technological innovations
or regulatory factors that affect useful lives.
· Extensive retooling is required for changes in products and/or production
process.
· Plant expansion or modernization is occurring.
· There is little consistency in the nature or the volume of property, plant
and equipment purchased or sold.
· The value assigned to property, plant and equipment is subject to
estimation.
· The title to property, plant and equipment purchased normally passes
before or after the receipt of the product.
· Payments are made before receipt of the property, plant and equipment
(e.g., deposits).
· The purchases and disbursements functions are decentralized (e.g.,
property, plant and equipment are acquired from various locations).
· The disbursement function involves a third party (e.g., disbursements
prepared by an outside data center)
e REV 4/01 57
· Maintenance and monitoring of lease agreements and determination of

type of lease is not centralized.
· Significant or increasing amount of leased facilities or equipment is
observed.
· Transactions or events leading to acquisition or disposal of property,
plant, and equipment are not controlled by the client (e.g., loan covenant
restrictions).
· Significant or increasing amounts of property, plant, and equipment are
held by customers (e.g., rentals) or used on their property (e.g.,
construction sites).
· Significant property, plant, and equipment are maintained in foreign
countries (possibly subject to expropriation or nationalization).
experience.
Analytics
· Review a summary of property, plant, and equipment by classification and
location that indicates acquisitions and sales or retirements during the
period; compare with prior periods, authorized expenditures and other
plans (e.g., budgets); investigate any unexpected changes (or the absence
of expected changes).
· Compare relationships of provision for depreciation and related allowance
account to asset balance. Review reasonableness of change and allowance
since prior year end.
· Review reasonableness of provision for depreciation by reference to prior
year provision and the effects of acquisitions and disposals.
Also refer to procedure number 8 under “Other procedures responsive to our
evaluation of processes resulting in routine transactions” below.
1. Examine invoices, capital expenditure authorizations, leases, and other
data (e.g., in-house construction work orders) supporting additions and
disposals to property, plant, and equipment during the period.
2. Review and, when appropriate, examine support for rentals under
operating leases and for significant charges to repairs, maintenance, and
other expense accounts to determine if they should be capitalized as
property, plant, and equipment.
3. Test computations of depreciation, depletion and amortization to determine
if acceptable methods and appropriate lives (or other bases for allocating
costs) are being used, and if they are consistent with the methods and lives
used in prior periods.
58 REV 4/01 e
General procedures
· Determine whether management has appropriately considered whether
indications of impairment are present.
· Consider information obtained during the audit in determining whether
management has identified appropriate indicators of impairment.
· When indicators of impairment are present, assess the reasonableness of
management’s estimated future cash flows.
· When an impairment should be recognized, determine that the methods
used by management in estimating fair value and the related assumptions
are reasonable.
· Test calculations of capitalized interest to determine if the appropriate
rates, amounts, and capitalization periods have been used.
· Determine the tax basis of accounting for property, plant, and equipment
transactions and verify that any book-tax differences have been accounted
for properly.
· Examine lease agreements to determine whether leases are appropriately
classified as capital or operating; determine whether the proper accounting has
been performed; and determine whether appropriate disclosures are made.
· Review the property, plant, and equipment and related accounts in the
general ledger for unusual items.
· Ascertain the business reasons for unusual additions and disposals.
· Inspect evidence of ownership (e.g., deeds, tax bills, and title policies for
real property and registration certificates for vehicles) or rights to use the
property, plant, and equipment (i.e., capital leases). Obtain direct
confirmation of ownership if the deeds are held by a custodian.
· Review minutes, agreements, legal filings, and other documents (e.g., loan
confirmations) for evidence of liens, pledges, security interests and
restrictions on property, plant, and equipment.
· Review minutes, agreements, capital budgets and subsequent
appropriations for evidence of plans or commitments for future additions
(including rentals under capital leases), sales, retirements, and
abandonments.
· Review the cash receipts journal for sales of property, plant, and
equipment.
· Inquire as to the existence of, and review detailed records for, major items
of property, plant, and equipment that are not in service. Consider the
likelihood that property, plant, and equipment will become idle in the
foreseeable future (due to a significant drop in production or a change in
product lines).
· Determine that property, plant, and equipment that is being held for
disposal is carried at the appropriate amount.
responsive to our evaluation of processes resulting in routine data
transactions” below.
e REV 4/01 59

occurred.
Cash receipts, cash disbursements, and purchasing applications
4. Test the cutoff of the additions to property, plant, and equipment
including, when applicable, transfers from construction in progress.
5. Inspect authorizations and other data supporting retirements, sales, and
other disposals and test the computations of the resulting gains and losses.
Determine that any such assets and the related accumulated depreciation
have been removed from the accounts.
6. Review the cash receipts journal for sales of property, plant, and
equipment.
7. Compare vendors’ invoices to the initial record of entry (voucher register).
8. Compare repairs and maintenance expense for the period with that of prior
periods and budgets, and investigate any unexpected changes (or the
absence of expected changes).
9. Compare the actual costs of additions with the authorized or estimated
amounts; investigate the reasons for any significant differences.
10. Examine support for rentals under operating leases and for significant
charges to repairs, maintenance, and other expense accounts to determine
if they should be capitalized as property, plant, and equipment.
11. Inspect selected assets and trace them to the detailed property, plant, and
equipment records to determine that they are recorded.
12. Verify the physical existence of recorded fixed assets by selecting items
from the schedule of additions for the year or from the detailed property,
plant, and equipment records and by inspecting the assets.
13. Compare the voucher register to vendors’ invoices.
14. Compare vendors’ invoices to purchase orders and purchase requisitions,
receiving documents, or evidence of receipt of services.
60 REV 4/01 e
18. Agree the detailed records of property, plant, and equipment and of the
related depreciation, depletion, and amortization with the appropriate
general ledger accounts.
19. Test the account distributions in the voucher register by comparing the
nature of the goods or services purchased with the descriptions of the
accounts.
20. Test the mathematical accuracy of the property, plant, and equipment
register.
21. Test postings of additions and disposals to the voucher register.
23. Test the posting of individual purchases in the voucher register to the
vendors’ ledger accounts as to the proper vendor, invoice number, date,
and amount.
Procedures responsive to possible errors — cash receipts, cash

disbursements, and purchases applications
Assertion
Possible Error Procedure #
E · Disposals of property, plant, and equipment are not 5, 6
recorded.
E · All disposals of property, plant, and equipment are not 1, 5, 10
classified as reductions of the property, plant, and
equipment accounts.
E · Debits classified as property, plant, and equipment are not 1, 11, 18, 19, 23
fixed assets.
E · Debits to property, plant, and equipment accounts are not 1, 4, 9, 12, 13,
for acquisitions of fixed assets. 14, 15
V · Disposals of property, plant, and equipment are not recorded 1, 5
at the correct amount.
V · Additions to property, plant, and equipment accounts are not 1, 9, 16, 17
recorded at the correct amount.
V/M · Depreciation is not recorded at the correct amount. 3
C · Credits to property, plant, and equipment accounts are not 1, 4, 5, 6

for disposals of fixed assets.
C · Acquisitions of property, plant, and equipment are not 2, 4, 7, 8, 9, 10,
recorded. 11
C · Additions, disposals, and depreciation of property, plant, 3, 4, 5
and equipment are recorded in the wrong period.
e REV 4/01 61
C · Credits to property, plant, and equipment accounts are not 1, 5, 10, 18

for fixed assets disposals.
C · All property, plant, and equipment acquisitions are not 2, 8, 10, 11, 18,
classified in the property, plant, and equipment accounts. 19
C · Property, plant, and equipment register is not correctly 20
totaled.
C · Voucher register is not correctly totaled. 22
C · Information in the property, plant, and equipment ledger 13, 21, 23
does not agree to detail of invoices and disposals noted.
C · Totals in the property, plant, and equipment ledgers do not 18
agree to general ledger.
assertions.
62 REV 4/01 e
Intangibles and Deferred Charges

The principal objectives in auditing intangibles and deferred charges are to
determine whether:
· All recorded identifiable intangible assets (e.g., patents) exist; all recorded
unidentifiable intangible assets (i.e., goodwill) arose from the acquisition
of a business (goodwill arising from other sources is not recorded). All
recorded deferred charges (e.g., relocation costs) represent expenditures
that are appropriately deferred to future periods.
· Consistent with the entity’s accounting policies and prescribed accounting
principles, all intangible assets owned by the entity and all charges that are
appropriately deferred to future periods are included on the balance sheet.
· Intangibles and deferred charges are included on the balance sheet at the
appropriate amounts and are being allocated in a systematic and rational
manner to the accounting periods estimated to be benefited.
· The entity owns, or has a legal right to, the identifiable intangibles
included on the balance sheet. Intangibles are free of liens, pledges, or
other security interests or, if not, such liens, pledges, or security interests
are identified. The entity is entitled to the future benefits related to the
deferred charges included on the balance sheet.
· Intangible assets, deferred charges, and related accounts are properly

account.
Nature of the item

· Significant judgment is involved in determining the valuation of the
account(s).
expectations.
· Liens, pledges, or other security interests exist.
e REV 4/01 63

· There are a significant number of intangibles and/or deferred charges.
experience.
Analytics
1. Determine the bases on which additions and reductions are recorded.
Examine invoices, authorizations, contracts, agreements, and other data
supporting intangibles or deferred charges capitalized and disposed of
during the period.
2. Inspect documentation supporting ownership of identifiable intangible assets.
3. Determine whether write-offs are required to reflect permanent
impairments of the carrying amounts of intangible assets or deferred
charges.
General procedures
· Review the intangible assets, deferred charges, and related accounts in the
· Determine the propriety of the amounts assigned to goodwill arising during
the period.
· Examine expense accounts for charges that should be considered for
capitalization as intangible assets or deferred charges.
· Verify computations of the amortization of intangibles and deferred
charges to determine if acceptable methods and appropriate lives are being
used, and if they are consistent with the methods and lives used in prior
periods.
· Review minutes and agreements for evidence of the existence of intangible
assets and charges appropriately deferred to future periods and for
evidence of liens, pledges, or other security interests in intangible assets.
· Obtain direct confirmation from attorneys and/or grantors of royalties,
licenses, or trademarks if existence of intangible assets is in question.
Notes Payable
The principal objectives in auditing notes payable and the related interest
expense are to determine whether:
64 REV 4/01 e
· All notes payable on the balance sheet are real debts due to creditors of the
entity. All recorded interest on notes payable has accrued at the balance
sheet date.
· All notes payable owed by the entity at the balance sheet date have been
recorded. All related interest expense which has accrued at the balance
sheet date has been recorded.
· Notes payable are included on the balance sheet at the appropriate
amounts. Interest expense is stated on the income statement at the
appropriate amount.
· The notes payable on the balance sheet represent obligations of the entity
at the balance sheet date. They are not secured by liens on, pledges of, or
security interests in assets or by other collateral, nor have they been
assumed or guaranteed by others unless otherwise indicated. There has
been compliance with the provisions of loan agreements.
· Notes payable and related interest accounts are properly classified,
described, and disclosed in the financial statements, including notes, in
conformity with prescribed accounting principles.

account.
Nature of the item

expectations.
· Numerous terms, restrictions, and other provisions of loan agreements
exist.
with the recording of the disbursement (e.g., checks prepared and
recorded, but not mailed).
· The accounting functions are decentralized.
experience.
e REV 4/01 65
Analytics
· Perform an overall test of the reasonableness of interest expense by
multiplying the average interest rate by the average amount of notes
payable outstanding.
1. Inspect original or authenticated copies of notes, loan agreements, or other
related documents to determine the terms, restrictions, and other pertinent
provisions of notes payable.
2. Identify liens, security interests, and assets pledged as loan collateral by
confirmation with creditors and or the appropriate public filing offices or
by inspection of public records.
3. Confirm notes payable as to amounts owed, terms, collateral and
restrictions and the debtor’s compliance with the loan provisions.
4. Review calculations and other evidence relating to compliance with the
terms, restrictions, or other provisions of loan agreements.
5. Review refinancing agreements and notes payable transactions subsequent
to the balance sheet date to determine their effects on balance sheet
classification or on disclosure.
General procedures
· Review authorizations of notes payable.
· Review minutes, agreements and bank and other confirmation replies for
evidence of the existence of short-term lines of credit or similar
obligations.
below.
occurred.
66 REV 4/01 e

Cash receipts and cash disbursements applications:
6. Examine cash receipts or other accounting records to verify additions to
notes payable during the period.
7. Review the Notes Payable and the related interest expense accounts in the
8. Review classification of notes payable in balance sheet.
9. Inspect canceled notes and/or examine cash disbursements or other
accounting records to verify notes paid or canceled during the period.
10. Test interest paid and accrued during the period.
E · Credits to notes payable accounts are not represented by 3

notes payable owed.
V · Notes payable are not recorded at the correct amount. 3, 6
C · Notes payable owed are not recorded. 3, 6
C · Notes payable are recorded in the wrong period. 3, 5
C · Notes payable owed are not classified as notes payable. 3, 7, 8
C · Cash receipts register is not correctly summarized. 3

C · Cash receipts and cash receipts register totals are not 3
correctly posted to the cash receipts register and general
ledger, respectively.
application
E · Debits to notes payable accounts are not represented by 3, 10

actual repayments.
V · Repayments of notes payable are not recorded at the correct 3, 9, 10
amount.
C · Repayments of notes payable are recorded in the wrong 3, 5, 10
period.
C · Repayments of notes payable are not recorded. 3, 9, 10
C · All repayments of notes payable are not debited to notes 3, 7, 8, 10

payable accounts.
C · Cash disbursements register is not correctly summarized. 3
e REV 4/01 67
P · Cash disbursements and cash disbursements register totals 3

are not correctly posted to the cash disbursements register
and general ledger, respectively.
assertions.
68 REV 4/01 e
Accounts Payable
The principal objectives in auditing accounts payable are to determine
whether:
· All accounts payable on the balance sheet are real debts due to suppliers
or other creditors of the entity for goods received or services performed.
· All accounts payable owed by the entity at the balance sheet date are
· Accounts payable are stated at the amounts owed at the balance sheet
date.
· The accounts payable on the balance sheet represent obligations of the
entity at the balance sheet date. The accounts payable are not secured by
liens on assets, security interests, or other collateral unless otherwise
indicated.
· Accounts payable are properly classified, described, and disclosed in the

account.
Nature of the item

· Our prior audit experience indicates that there have been frequent errors in the
account balance.
· The results of our planning analytics do not coincide with our expectations.
· Accounts payable documentation is susceptible to manipulation by the client
staff.
· Disbursements are made using cash.
· The volume of activity is high.
· There are unusual or non-standard transactions (e.g., manual activity
made in a computerized system).
· There is little consistency in the volume of purchases or disbursements.
e REV 4/01 69
· The occurrence of transactions does not coincide with the recording (e.g.,
checks prepared and recorded but not mailed).
· The transactions or events leading to a purchase recognition are not
controlled by the client.
· The invoice payment structure is complex (e.g., discounts, taxes, freight)
· Significant purchases and disbursements in foreign currencies occur.
· The exchange rates of foreign currencies are volatile.
· The purchases and accounts payable functions are decentralized for
recording (e.g., related activity occurs at various locations).
· The accounts payable functions involve a third party (e.g., disbursements
processed by an outside data center).
experience.
· The client has inadequate IT systems for the volume of activity, size, and
/or complexity of the account.
Analytics
· Compare the list of accounts payable with those of prior periods and
investigate any unexpected changes (e.g., changes in major vendors, in the
proportion of debit balances, in the aging of the accounts) or the absence
of expected changes.
· Compare the number of days’ purchases in accounts payable with prior years.
When appropriate, e.g., to determine whether receipts or disbursements
reconciling items, perform bank reconciliation cutoff procedures.
2. Test the cutoff by inspecting the voucher register, receiving records,
vendors’ invoices and other supporting documents immediately before and
after the cutoff date and determine that the transactions were recorded in
the proper period; compare payables cutoff to cutoff in related areas (e.g.,
inventories).
3. Perform a search for unrecorded liabilities at the inventory date and/or
year end by selecting subsequent disbursements and unmatched invoices
and receiving reports to examine.
General procedures
· Test the account distributions in the voucher register by comparing the nature
of the goods or services purchased with the descriptions of the accounts.
70 REV 4/01 e
· Trace the total of the detailed listing of accounts payable to the total
accounts payable in the general ledger.
· Identify security interests and assets pledged as collateral for accounts
payable by confirmation with creditors and/or with the appropriate public
filing offices or by inspecting public records, and by reviewing minutes
and other documents.
· Review debit memos and other similar adjustments after year end.
below.
occurred.
4. Test cutoff of cash disbursements and transfers at the balance sheet date.
5. Account for the numerical sequence of checks issued during a specified
period.
6. Compare paid checks and supporting documents with the cash
disbursements register as to date, payee, amount and account distribution;
determine whether supporting documents have been marked to prevent
reuse.
7. Confirm accounts payable.
8. Obtain the listing of accounts payable and trace the details to the voucher
register, vendors’ ledger, vendors’ statements, or other record of detailed
accounts; investigate debit balances, and other unusual items.
9. Compare entries in the cash disbursements register with the paid checks
and supporting documents as to date, payee, amount and account
to prevent reuse.
10. Determine whether the signatures on paid checks are authorized.
e REV 4/01 71
11. Compare endorsements with the named payees and investigate double or
other unexpected endorsements.
12. Examine payments of balances subsequent to the balance sheet date to
verify recorded payables.
14. Test the posting of individual cash disbursements from the cash
disbursements register to the appropriate accounts in the subsidiary
ledgers.
Purchases application:
17. Compare goods and services ordered (purchase orders and purchase
requisitions) to vendors’ invoices.
18. Compare evidence of goods and services received to vendors’ invoices.
20. Examine vendors’ invoices, receiving reports, or other documents
supporting the account balances.
21. Compare the voucher register to vendors’ invoices.
25. Review the accounts payable account in the general ledger for unusual
items.
26. Review the voucher register and cash disbursements register for unusual
items; investigate any such items observed.
27. Test the posting of individual purchases in the voucher register to the
vendors’ ledger accounts as to the proper vendor, invoice number, date
and amount.
29. Test the posting of the totals in the voucher register to the general ledger
72 REV 4/01 e

application
E · Debits to accounts payable accounts are not represented by 1, 5, 7, 9, 10, 11

actual cash disbursements to vendors.
V · Recorded cash disbursements to vendors do not agree with 1, 6, 7, 9, 12
the amount disbursed
C · Cash disbursements to vendors are not recorded. 1, 4, 5, 6, 7, 8
C · Disbursements are recorded in the wrong period. 1, 4
C · Current period disbursements are recorded in subsequent 1, 4
periods.
C · All cash disbursements related to accounts payable are not 13

debited to accounts payable accounts.
C · Totals in the cash disbursements register are not correctly 16
posted to the general ledger.
C · Cash disbursements are not correctly posted to the cash 6
disbursements register.
C · Individual cash disbursements are not correctly posted to 14
the vendor subledger.
E · Credits to accounts payable accounts are not represented by 2, 3, 7, 8, 12, 20,

goods or services received. 21, 22,
V · Charges from vendors are incorrectly computed. 3, 7, 12, 20, 23,
24
C · Goods or services received from vendors are not recorded. 2, 3, 7, 17, 18,
19
C · Charges are recorded in the wrong period. 2, 3, 12
C · All amounts owed to vendors are not credited to accounts 27

payable accounts.
C · Voucher register is not correctly summarized. 28

C · Totals in the voucher register are not correctly posted to the 29
general ledger.
C · Vendor invoices are not correctly posted to the voucher 8, 19, 27
register.
assertions.
e REV 4/01 73
Income Taxes Payable

The principal objectives in auditing income taxes payable and related income
tax expense are to determine whether:
· All liabilities for income taxes on the balance sheet represent amounts
owed to governmental entities for income taxes. All recorded income tax
expense has accrued at the balance sheet date.
· All liabilities for income taxes owed by the entity and all income tax
expense that had accrued at the balance sheet date have been recorded.
· Income taxes payable are included on the balance sheet at the appropriate
amounts.
· The income taxes payable on the balance sheet represent obligations of the
entity at the balance sheet date.
· Liabilities for income taxes and the related income tax expense are
properly classified, described, and disclosed in the financial statements,
including notes, in conformity with prescribed accounting principles.

account.
Nature of the item

expectations.
· Significant income tax matters exist.
· The company has frequently been examined by tax authorities, resulting in
tax adjustments.
experience.
· The corporate structure is complex.
· Management takes a more aggressive position on tax matters.
74 REV 4/01 e
Analytics
· Compare the relationships of income tax expense and the current and
deferred provisions for income taxes to pre-tax income with prior years.
Investigate any unexpected changes or the absence of expected changes.
1. Examine a reconciliation of current period book and taxable income;
compare reconciling items with those in prior periods and examine
support; establish that all significant reconciling items have been
considered.
2. Test computations of provisions for income taxes for the current period.
3. Determine whether provision should be made for any tax positions taken
by the client (or other tax contingencies) that may be challenged by the tax
authorities.
General procedures
· Review the income taxes payable and related expense accounts in the
· Examine support for tax payments made and refunds received during the
period.
· Determine whether any tax authority examinations have been completed
during the period or are currently in progress; review completed reports or
the status of examinations in progress; determine whether additional
provisions are needed for possible assessments, penalties, or interest.
· Review prior periods’ returns not yet examined by the tax authorities for
items similar to those adjusted or proposed for adjustment by the tax
authorities; determine whether additional provisions should be made.
· Determine that all required income tax returns have been properly and
timely filed by the client.
· Consult with tax personnel on significant income tax matters; coordinate
with the tax department the review of income tax accruals, provisions,
status of tax matters, and related financial statement disclosures.
Accrued Liabilities and Deferred Income

The principal objectives in auditing accrued liabilities and deferred income,
and the related income and expense accounts, are to determine whether:
· All accrued liabilities on the balance sheet have accrued or are real debts
of the entity, and all deferred income on the balance sheet represents
income that is appropriately deferred to future periods.
e REV 4/01 75
· All liabilities that have accrued at the balance sheet date and all income
that is appropriately deferred to future periods are included on the balance
sheet.
· Accrued liabilities and deferred income are included on the balance sheet
at the appropriate amounts, and deferred income is being allocated to the
periods in which it is earned.
· The accrued liabilities on the balance sheet represent obligations of the
entity at the balance sheet date which are not secured by liens on assets,
security interests, or other collateral nor have they been assumed or
guaranteed by others unless otherwise indicated.
· Accrued liabilities and deferred income are properly classified, described,
and disclosed in the financial statements, including notes, in conformity
with prescribed accounting principles.

account.
Nature of the item

· Our prior audit experience indicates that there have been frequent errors in the
account balance.
· The nature of accrued liabilities is such that significant estimation is used.
· The results of our planning analytics do not coincide with our expectations.
· The volume of activity is high.
· Liability and deferral calculations are complex.
· There are unusual or non-standard transactions (e.g., discontinued
operations).
· There is little consistency in the account activity.
· The accounting functions are decentralized for the recording of significant
accruals and deferrals (e.g., related routine activity occurs at various
locations).
experience.
76 REV 4/01 e
Analytics
· Accrued expenses:
– Compare the current period’s ratio of expense to sales with prior
periods’ ratios and with competitors’ ratios.
General procedures
· Review the accrued liability and deferred income accounts in the general
ledger for unusual items.
· Examine the composition and the computation of the accrued liabilities
account balances.
· Compare the accrued liabilities at the beginning and end of the period and
determine that the accounting is consistent.
· Examine minutes, agreements, contracts, invoices, and other documents
supporting accruals and deferred income. Review also for evidence of the
existence of liabilities that should be accrued and of income that is
appropriately deferred to future periods.
· Test the support for charges to the accrued liability accounts during the period.
· Reconcile the amounts credited to the accrued liability accounts during the
period with the related expense accounts.
· Examine payments of accrued liabilities subsequent to the end of the
period.
· Search for unrecorded accrued liabilities.
· Examine the composition and the computation of the deferred income
account balances and determine whether the bases for deferring income to
future periods are appropriate.
· Compare the deferred income accounts at the beginning and end of the
period and determine whether the accounting is consistent.
Product Warranty Liabilities

The principal objectives in auditing product warranty liabilities and the related
expense accounts, are to determine whether:
· Product warranty liabilities on the balance sheet have accrued or are real
debts of the entity.
· Product warranty liabilities that have accrued at the balance sheet date are
e REV 4/01 77
· Product warranty liabilities are included on the balance sheet at the

appropriate amounts, and related expenses are being allocated to the
periods in which they are incurred.
· Product warranty liabilities on the balance sheet represent obligations of
the entity at the balance sheet date which are not secured by liens on
assets, security interests, or other collateral nor have they been assumed or
guaranteed by others unless otherwise indicated.
· Product warranty liabilities are properly classified, described, and
disclosed in the financial statements, including notes, in conformity with
prescribed accounting principles.

account.
Nature of the item

· Significant judgment is used in determining the warranty provision.
expectations.
· The volume of product sold under warranty is high.
· The company incurs a significant number of warranty claims annually.
· Warranty coverages and provisions are liberal.
· Warranty calculations are complex.
during the year.
· The company’s unwritten policy for warranties differ from the written
policy.
· Many new products under warranty were sold during the period without a
reasonable historical basis for calculating the warranty liability.
experience.
78 REV 4/01 e
Analytics
· Compare current year’s to prior year’s reserve, charges and related
expense.
· Compare current year’s to prior year’s warranty expense by product
and/or geographical area (i.e., domestic or foreign) as a percentage of
sales and cost of sales or units sold.
· Compare warranty experience to patterns in the client’s industry.
· Compare aged analysis of the warranty accruals with warranty expiration
dates.
· Compare actual expenditures for product warranty liabilities with the
amounts claimed.
General procedures
· Discuss with the client its operating policies and procedures that would
affect warranties including:
– The types of warranty coverages offered.
– The factors that affect warranty coverage, such as volume purchased,
type of installation, service contracts, alterations to basic product, etc.
– The procedures used to provide for and control warranty expenditures.
– Any large dollar, new, or unusual, etc., products sold that are subject
to warranty coverage.
– Efforts to correct/identify significant (individual or generic) product
problems that affect warranty reserves.
– Any production problems or possible changes in operations that are
resulting in increased warranty costs. Also, consider if the problems
are isolated or generic.
– Any implicit warranty obligations that exist based on common
industry practice, company practice or legal opinion (i.e., situations
when the client’s unwritten policy for warranties differs from the
written policy).
· For new products, determine whether the client has developed a reasonable
basis for providing warranty costs (e.g., consider previous experience with
similar items).
· Review activity in the reserve and the related expense accounts.
· Update status of specific items reserved for in the prior year.
· Review contracts, sales agreements and/or sales catalogs to verify the
terms and provisions of warranty coverage.
e REV 4/01 79
· Review contract files, correspondence files, and/or production reports that

may indicate potential warranty problems.
· Test estimated costs to complete warranty repairs by:
– Discussing with client procedures used to calculate estimated costs of
warranty repairs.
– Comparing costs incurred to date plus estimated costs to complete
with original repair estimates, along with explanations of unusual
variances.
– Reviewing revised or updated estimates of costs to complete warranty
repairs and compare the estimates with the actual costs incurred after
the balance sheet date.
– Comparing prior warranty repair costs on similar items to current
estimates.
– Reviewing support by component (material, labor and overhead) of
the estimated cost to complete warranty repairs.
· Determine whether new, large or unusual, etc., warranty problems have
occurred (new events or revisions to estimates of known problems)
subsequent to the balance sheet date.
· Consider the appropriateness of the client’s model and test the accuracy of
its application to the relevant data.
· Develop an alternative model to test the reasonableness of the reserve.
· Consider evidence gained from accounts receivable and legal
confirmations regarding warranty claims.
· Review a summary of items included in the reserve for completeness and
unusual items.
· If the adequacy of the reserve is evaluated at an interim date, update
procedures through year end, as appropriate.
· Consider penalties and/or other costs associated with warranty or other
performance guarantees in determining the reserve.
· Conclude on the adequacy of the reserve.
Long-Term Debt
The principal objectives in auditing long-term debt and the related interest
expense are to determine whether:
· All long-term debt on the balance sheet is real debt due to creditors of the
entity. All recorded interest on long-term debt has accrued at the balance
sheet date.
· All the entity’s long-term debt at the balance sheet date has been recorded.
All related interest expense which has accrued at the balance sheet date
has been recorded.
· Long-term debt is included on the balance sheet at the appropriate
amounts. Interest expense is stated on the income statement at the
appropriate amount.
80 REV 4/01 e
· The long-term debt on the balance sheet represents obligations of the entity
at the balance sheet date. Unless otherwise indicated, the debt is not
secured by liens on, pledges of, or security interests in assets or by other
collateral, nor has the long-term debt been assumed or guaranteed by
others. There has been compliance with the provisions of debt agreements.
· Long-term debt and related accounts for discount, premium, debt issuance
costs, and interest are properly classified, described and disclosed in the
financial statements, including notes, in conformity with prescribed accounting
principles.

account.
Nature of the item

· Numerous debt agreements exist.
expectations.
· Numerous loan covenants exist.
· Loan covenants are highly restrictive.
· Loan covenant calculations and/or loan terms are complex.
· Derivative arrangements exist related to the long-term debt.
with the recording of the disbursement (e.g., checks prepared and
recorded, but not mailed).
· The cash functions are decentralized.
experience.
Analytics
e REV 4/01 81
· Perform an overall test of the reasonableness of interest expense by
multiplying the average interest rate by the average amount of debt
outstanding.
1. Inspect original or authenticated copies of notes, debt agreements, or other
related documents to determine the terms, restrictive covenants, and other
pertinent provisions of long-term debt.
2. Identify liens, security interests and assets pledged as collateral for debt by
confirmation with the debt holders or, if necessary, the appropriate public
filing offices or by inspection of the public records.
3. Confirm long-term debt as to the amounts owed and in sinking funds,
terms, collateral, restrictions, and the debtor’s compliance with the
provisions of indentures.
4. Review calculations and other evidence relating to compliance with the
terms, restrictive covenants, or other provisions of debt agreements. In the
case of noncompliance, review any waivers obtained and ascertain that
debt is properly classified.
5. Review refinancing agreements and long-term debt transactions
subsequent to the balance sheet date to determine their effects on balance
sheet classification or on disclosure.
General procedures
· Review minutes, agreements or other documents to verify the authorization
of long-term debt and to identify the existence of long-term lines of credit.
· Review leases for proper classification as capital or operating. Correlate
to property, plant, and equipment work or lease working papers.
· Prepare or review the schedule of maturities.
Also see procedure numbers 7 and 9 under “Other procedures responsive to
our evaluation of processes resulting in routine transactions” below.
occurred.
82 REV 4/01 e
Cash receipts and cash disbursements applications:
6. Examine cash receipts or other accounting records to verify additions to
long-term debt during the period.
7. Review the long-term debt and related accounts (e.g., discount, premium,
debt issuance costs, and interest) in the general ledger for unusual items.
8. Inspect canceled notes and bonds and/or examine cash disbursements or other
accounting records to verify long-term debt paid or canceled during the period.
9. Test interest paid, imputed and accrued and amortization of bond premium
or discount and debt issuance costs during the period.
E · Credits to long-term debt accounts are not represented by 3

long-term debt owed.
V · Long-term debt is not recorded at the correct amount. 3, 6
C · Long-term debt owed is not recorded. 3, 6
C · Long-term debt is recorded in the wrong period. 3, 5
C · Long-term debt owed is not classified as long-term debt. 3, 7
C · Cash receipts register is not correctly summarized. 3

C · Cash receipts and cash receipts totals are not correctly 3
posted to the cash receipts register and general ledger,
respectively.
e REV 4/01 83

application
E · Repayments of long-term debt are not recorded. 3, 8, 9

E · All repayments of long-term debt are not classified as 3, 7, 9
long-term debt.
V · Repayments of long-term debt are not recorded at the 3, 8, 9

correct amount.
C · Debits to long-term debt accounts are not represented by 3, 9
actual repayments.
C · Repayments of long-term debt are recorded in the wrong 3, 5, 9

period.

C · Cash disbursements and cash disbursements totals are 3
not correctly posted to the cash disbursements register
and general ledger, respectively.
assertions.
Deferred Income Taxes and Other Non-Current Credits

The principal objectives in auditing deferred income taxes and other non-
current credits are to determine whether:
· All deferred income taxes and other non-current credits on the balance
sheet represent amounts that have accrued at the balance sheet date or that
are appropriately deferred to future periods.
· All deferred income taxes and other non-current credits that have accrued
at the balance sheet date or that are appropriately deferred to future
periods are included on the balance sheet.
· Deferred income taxes and other non-current credits are included on the
balance sheet at the appropriate amounts.
· Deferred income taxes and other non-current credits are properly

account.
84 REV 4/01 e
Nature of the item

expectations.
· Significant income tax matters exist.
· A significant number of deferred tax items and/or non-current credits
exist.
· The company has frequently been examined by the tax authorities,
resulting in tax adjustments.
experience.
Analytics
· Compare the amounts of the changes in the deferred income tax balances
between the current period and the prior period with the provision for
deferred income taxes.
1. Examine the composition and the computation of the balances in deferred
income taxes and the other non-current credit accounts. Recompute
deferred income taxes as necessary.
General procedures
· Review the deferred income tax and the other non-current credit accounts
in the general ledger for unusual items.
· Review reconciliations of the amounts credited or charged to deferred
income taxes and other non-current credit accounts during the period with
the related income or expense accounts.
· Review the current period’s book and taxable incomes to identify
differences.
· Determine the methods of accounting for deferred income taxes and other non-
current credits, and the consistency with which the methods have been applied.
e REV 4/01 85
· Examine minutes, contracts, agreements and other documentation

supporting other non-current credits and the related expense accounts.
· Examine support for credits and charges to other non-current credit
accounts during the period.
· Inquire about the existence of conditions or circumstances that may
indicate a need for balance sheet deferrals or for disclosure.
Commitments
The principal objectives in auditing commitments are to determine whether:
· All commitments reflected in the financial statements, including notes,
exist.
· All commitments have been reflected in the financial statements, including
notes, to the required extent.
· Commitments have been included in the financial statements, including
notes, at the appropriate amounts.
· All commitments are obligations of the entity for future performance.
· Commitments are properly classified, described, and disclosed in the

account.
Nature of the item

· Significant commitments exist.
· Our prior audit experience indicates that there frequently have been
situations where commitments were not recorded and/or disclosed.
· Various types of commitments have been entered into by the company.
· Significant judgment is used in estimating the outcomes and effects of
commitments.
expectations.
period.
· Numerous commitments exist.
· The client has entered into derivative agreements.
· Policies exist to guarantee the debts of certain related parties.
86 REV 4/01 e

· Legal and/or accounting personnel have a lower level of competence or
experience.
· Inquire of and discuss with management the client’s policies and
procedures for identifying, evaluating, and accounting for commitments.
· Review the results of audit procedures performed in other accounts.
· Read the minutes of corporate meetings (e.g., shareholders, board of
directors, and relevant committees of the board) held during the period
being examined and through to the date of the auditors’ report.
· Read significant contracts, loan agreements, leases, service guarantees,
insurance policies (or note the lack of insurance), and other applicable
documents.
· Determine, through inquiry and review of sales and/or lease agreements,
policies in effect with respect to returns, repurchases, and future
allowances applicable to sales or leases.
· Determine, through inquiry and review of minutes, contracts/agreements,
and bank confirmations, accounting and operating policies in effect with
respect to interest rate and foreign currency futures/hedges.
· Examine returned confirmations of bank credit arrangements for
contingent liabilities, letters of credit, and compensating balance
arrangements.
· Inquire as to material commitments to: complete sales contracts at a loss
or that cannot be fulfilled; repurchase assets previously sold; purchase
quantities in excess of requirements or at prices in excess of prevailing
market prices; construct or acquire property, plant, equipment,
investments, intangibles, or other noncurrent assets.
· Review cost and progress estimation procedures for long-term projects.
· Obtain estimates of pension plan vested benefits and unfunded past service
cost.
· Evaluate the principal assumptions underlying management’s estimates of
the outcomes and effects of commitments.
· Inquire of management and the client’s financial institutions (specifically
the assigned lending officers), orally or by supplementing bank
confirmation requests, about guarantees (including oral guarantees) of the
debt of others.
· Obtain the client’s representation regarding commitments as part of the
financial statement representation letter.
Contingencies
The principal objectives in auditing contingencies are to determine whether:
e REV 4/01 87
· All contingencies reflected in the financial statements, including notes,

exist.
· All contingencies have been reflected in the financial statements, including
notes, to the required extent.
· Contingencies have been included in the financial statements, including
notes, at the appropriate amounts.
· Contingencies are properly classified, described, and disclosed in the

account.
Nature of the item

· Significant contingencies exist.
· Our prior audit experience indicates that there frequently have been
situations where contingencies were not recorded and/or disclosed.
· Various types of contingencies exist.
· Significant judgment is used in estimating the outcomes and effects of
contingencies.
expectations.
period.
· Numerous litigation, claims, and unasserted claims exist.
· Policies exist to guarantee the debts of certain related parties.
· The client does not have insurance to cover all of its exposures.
· Legal and/or accounting personnel have a lower level of competence or
experience.
· Inquire of and discuss with management the client’s policies and
procedures for identifying, evaluating, and accounting for contingencies,
including those resulting from litigation, claims, and unasserted claims.
The inquiry should consider addressing oral arrangements, such as an oral
guarantee of the debt of others, as well as written arrangements.
· Review the results of audit procedures performed for other accounts.
88 REV 4/01 e
· Read the minutes of corporate meetings (e.g., shareholders, board of

directors and relevant committees of the board) held during the period
being examined and through to the date of the auditors’ report.
· Read significant contracts, loan agreements, leases, correspondence from
tax and other regulatory authorities, service guarantees, insurance policies
(or note the lack of insurance), and other applicable documents.
· Determine, through inquiry and review of sales and/or lease agreements,
policies in effect with respect to returns, repurchases, and future
allowances applicable to sales or leases.
· Examine confirmations of bank credit arrangements for contingent
liabilities, letters of credit, and compensating balance arrangements.
Consider inquiry (orally or by supplementing the confirmation request) of
the financial institution, including the institution’s lending officer servicing
the client’s account, about oral, as well as written, guarantees of the debt
of others.
· Obtain from management or legal counsel a description and evaluation of
the litigation, claims and unasserted claims that existed at the balance
sheet date and during the period from the balance sheet date to the date the
information is provided to the auditors.
· Obtain written representation from management that the list of unasserted
claims provided to the auditors (and included in the inquiry letter sent to legal
counsel) includes all unasserted claims that management has been advised by
legal counsel are probable of assertion and which are required to be disclosed.
· Examine documents, including correspondence and invoices from lawyers, in
the client’s possession concerning litigation, claims, and unasserted claims.
· Obtain and evaluate letters from legal counsel.
· Evaluate the principal assumptions underlying management’s estimates of
the outcomes and effects of contingencies, and the reasonableness of the
amounts/disclosures to be included in the financial statements.
· Review rationale and supporting data and computations for additions to
estimated liability for self-insurance claims. Compare relationship of provision
to claims made during the period. (Request this information through the client,
from an actuary or risk management consultant, if applicable.)
· Obtain the client’s representation regarding contingencies and an update of
unasserted claims to the date of the auditors’ report as part of the financial
statement representation letter. Consider adding a reference to oral and
written guarantees to the contingent liabilities section of the letter.
Shareholders’, Partners’ or Proprietor’s Equity

The principal objectives in auditing shareholders’, partners’, or proprietor’s
equity accounts are to determine whether:
· All the equity accounts on the balance sheet either (a) represent shares or
other units of ownership that are appropriately authorized, issued, and
outstanding; or (b) reflect other properly authorized transactions that are
appropriately recorded in the equity accounts.
e REV 4/01 89
· All the shares or other units of ownership that are appropriately authorized,
issued, and outstanding, and all other properly authorized transactions that
affect the equity accounts at the balance sheet date are included in the equity
accounts.
· The equity accounts are stated on the balance sheet at the appropriate
amounts.
· Stock options, stock purchase plans, stock purchase warrants, conversion
privileges, or other contingent share issuances that exist have been
appropriately recognized.
· The equity accounts are properly classified, described and disclosed in the

account.
Nature of the item

expectations.
· Stock option plans, stock purchase plans, stock purchase warrants,
conversion privileges, or other contingent share issuances exist.
· The client had a spin-off of a portion of its business during the year.
· The stock market is volatile.
· Complex partnership agreements or stock-related plans exist.
Organization of company
experience.
Analytics
90 REV 4/01 e
1. Confirm the capital stock authorized and issued and, when applicable, the
treasury shares held with the transfer agent and registrar; confirm the
partners’ or the proprietor’s account balances.
2. If the client acts as its own transfer agent, examine the stock certificate
book or the detailed records to determine the numbers of authorized shares
and outstanding shares; inspect unused certificates on hand; test the
issuance and cancellation of shares during the period.
3. Review the minutes and other supporting documents for the authorization
for, and the details of, the transactions that affected the equity accounts
during the period, including equity restrictions.
General procedures
· Review the equity accounts in the general ledger for unusual items.
· Review the applicability of the financial provisions of the articles of
incorporation, charter, bylaws, loan agreements, recapitalization plans,
contingent stock issuance agreements, partnership agreements, and other
documents to the activity in the equity accounts during the period.
· When applicable, review the authorizations for purchases and retirements
of treasury shares; inspect or confirm the stock certificates held in the
treasury or retired during the period; determine that reacquired evidences
of ownership are held in safekeeping.
· Examine support for sales of stock, exercises of stock purchase warrants
and stock options, contributions to partners’ or proprietor’s capital, or
other additions during the period; examine authorizations for and
supporting details of stock dividends, stock splits, and conversions during
the period.
· Examine authorizations for and supporting details of cash dividends and
other distributions of equity during the period; verify calculations of
amounts distributed; review restrictions imposed by regulations, debt
agreements, partnership agreements, or other instruments; determine that
distributions made were from available equity; determine whether any
liability exists for dividends declared but not paid at the balance sheet
date.
· Examine canceled dividend checks for agreement with records.
· Request representation from corporate secretary as to shares issued and
outstanding.
· Support details of schedules of shares under option and dollar values by
reference to board or authorized committee minutes, provisions of stock
plans, or market value quotations.
· Obtain the opinion of legal counsel to determine whether changes in
capitalization during the period meet legal requirements.
· Examine the transactions in the equity accounts subsequent to the balance
sheet date for adjustments that should be reflected or disclosures that
should be made in the financial statements.
e REV 4/01 91
Revenues, Costs and Expenses

Account balances associated with Revenues, Costs and Expenses are discussed
under the following headings:
· Revenues.
· Costs and Expenses.
Specific procedures that may be useful in achieving audit objectives for certain
revenue, cost or expense accounts are provided in this Appendix under the
related balance sheet accounts. The list below, while not complete, includes
many of the income statement accounts that we may examine or review in
connection with our examination of the related balance sheet accounts.
92 REV 4/01 e
Balance Sheet Accounts Type of Revenue, Cost or Expense

Cash, including Bank Certain revenues not processed as part of the sales
Balances and accounts receivable application; certain costs and
expenses not processed as part of the purchases and
accounts payable application.
Receivables Sales; bad debt expense; interest income from notes
receivable; discounts and allowances.
Inventories Cost of sales; losses arising from adjusting inventories
from a cost basis to a lower market value, including the
write-downs of obsolete or slow-moving items.
Prepaid Expenses Current period expenses related to prepaid items such
as office supplies, insurance, interest, etc.
Investments Dividend and interest income; gains and losses from
the disposal of investments and from trading
securities; losses from write-downs of available-for-
sale and held-to-maturity securities to fair value.
Derivatives Gains and losses associated with derivatives.
Affiliates Interest income and expense from receivables,
payables, and advances; dividend income from
investments; losses from write-downs.
Long-Term Receivables, Interest income on long-term receivables and non-
Non-Current Deposits, and current deposits; losses from write-downs to
Other Assets realizable value.
Property, Plant, and Depreciation, depletion, and amortization expense;
Equipment gains or losses from sales of property, plant, and
equipment; losses from writedowns due to permanent
impairments of value; losses from write-downs of
assets held for disposal to realizable value; rent
expense under operating leases; repairs and
maintenance expense.
Intangibles and Deferred Amortization of intangibles and deferred charges;
Charges losses from write-downs due to permanent
impairments of value.
Notes Payable Interest expense.
Income Taxes Payable Income tax expense.
Accrued Liabilities and Current period expenses related to profit-sharing and
Deferred Income pension plans, compensation, compensated absences,
taxes other than income, rents, insurance,
advertising, etc.
Product Warranty Liabilities Current period expenses related to product warranty
repair or replacement costs; sales returns and
allowances; cash refunds.
Long-Term Debt Interest expense; amortization of premium, discount,
and debt issuance costs.
Deferred Income Taxes and Deferred income tax expense; current period income
Other Non-Current Credits and expenses related to non-current credits.
Commitments Gains and losses associated with commitments.
Contingencies Gains and losses associated with contingencies.
e REV 4/01 93
Revenues
The principal objectives in auditing revenues are to determine whether:
· All sales included in the income statement represent the exchange of goods
or services with customers for cash or other consideration during the
period. All other revenues included in the income statement for the period
have accrued to the entity at the balance sheet date. Revenues applicable
to future periods have been deferred.
· All sales and other revenues that accrued to the entity during the period are
included in the income statement.
· Sales and other revenues are stated in the income statement at the
appropriate amounts.
· Sales and other revenues are properly classified, described, and disclosed
in the financial statements, including notes, in conformity with prescribed

account.
Nature of the item

expectations.
period.
· Large and/or unusual sales agreements exist.
· Revenue is recognized on a percentage-of-completion basis.
· The nature of products sold or services rendered is such that the quantity
of products shipped or the value of services rendered (and related credits
issued) is subject to estimation (e.g., cannot be precisely counted, weighed,
or measured).
· Products sold or services rendered (and related credits issued) are difficult
to differentiate.

94 REV 4/01 e
· The volume of products sold or services rendered is high.

· Customer turnover is high.
· Customers are smaller, less-established companies.
· Sales are seasonal in nature.
· Partial shipments and backorders occur frequently.
· The prices for products or services change frequently.
There is little consistency in the nature of products sold or services rendered, the customers to
whom products are sold or services are rendered, the volume of products sold or services rendered
or the type or volume of products returned or services credited by the client.
· Sales normally are earned on a conditional basis (e.g., trial and/or rental
basis).
· The existence of side agreements is common.
· Sales contracts are non-standard and subject to negotiation.
· The timing of sales recognition cannot be clearly established (e.g.,
percentage of completion for long-term contracts or installment sales
recognition).
· The value assigned to sales or to the transactions or events leading to
credit memo recognition cannot be clearly established.
· The invoice pricing structure is complex (e.g., many factors contributing
to the price such as sales/use tax, freight, foreign exchange, and
discounts).
· The occurrence of transactions (e.g., products shipped) evidencing sales
does not coincide with the transfer of the title to the goods.
· Intra- and inter-company profits exist.
· The selling function is decentralized (e.g., sales are made from various
locations or when numerous inter/intracompany transfers have occurred).
· The invoice or credit memo pricing function is performed in numerous
locations (e.g., pricing an invoice or credit with an out-of-date list in
remote locations).
· The transactions or events leading to sales recognition or credit memo
issuance are not controlled by the client (e.g., shipments made from public
warehouses, from consignees, or directly from suppliers or returns made to
public warehouses, to consignees, or directly to suppliers).
· There is economic dependence by or on one or more customers, including
related parties.
experience.
e REV 4/01 95
Analytics
General
· Compare the monthly income statements and investigate any unexpected
fluctuations (or absence of expected fluctuations).
· Review the client’s comparisons of budgeted and actual revenues by
month or by quarter; corroborate some of the reasons identified by the
client for important variations; investigate any unexpected variations (or
the absence of expected variations) that were not identified by the client.
Sales
· Compare sales to the current year’s budget and to prior periods’ actual
sales by product line or geographic area.
· Compare sales volume to industry output in total or by geographic area
(e.g., exports).
· Compare gross profit ratios with prior periods by product line or
geographic area (e.g., exports); compare other operating relationships
(e.g., both sales and cost of sales to units shipped) with prior periods.
· Compare sales for several days prior to and after year end to the average
daily sales for the year.
· Compare the current period’s sales returns and allowance for sales returns
as percentages of sales by product line with prior periods’ percentages.
· Compare the number and amounts of credits issued with those of prior periods.
· Review the relationships between sales and cost of sales, such as gross
profit analyses, comparisons of standards and actual costs, and
reconciliations between cost of sales and outgoing shipments.
· Review the relationships between certain types of expenses and sales (e.g.,
freight-out to units billed and sales bonuses to sales).
· If inventory overstatement can result from unbilled inventory, observe
physical inventory at or near year end. Arrange for heavy coverage of
counts. Investigate book-to-physical adjustments.
· Compare the volume of cash sales with corresponding days or periods in prior
years. Investigate any unexpected changes or the absence of expected changes.
· Review gross margins from cash sales and compare with prior periods.
Other revenue
· Perform an overall test of revenue (e.g., published tuition rates for a
school times the number of students, by classification).
· Perform an overall test of interest and dividend income on investments and
receivables (e.g., by multiplying the average amounts invested or
receivable by average interest rate or dividend yields).
96 REV 4/01 e
1. Confirm accounts receivable.
If accounts are confirmed at an interim date, review the “roll-forward” of
activity from the confirmation date to the balance sheet date and compare
level of activity with prior periods. Investigate unusual items; consider
confirming (at the balance sheet date) significant new accounts and those
accounts with significant increases or decreases between the confirmation
date and the balance sheet date.
Examine subsequent cash receipts, shipping records, sales contracts, and
other evidence to verify the validity of accounts receivable for which
replies to confirmation requests are unsatisfactory or were not obtained or
as part of supporting year-end receivables balances.
2. Test the cutoffs of revenues by inspecting the sales register, billings,
shipping documents, and other supporting documents immediately before
and after the cutoff date, and determine that the transactions were recorded
in the proper period; perform analytics to “identify” spikes in sales volume
in the last few days or weeks of the period (e.g., compare sales and sales
returns for several days prior to and after year end with the average daily
sales and sales returns for the year and the corresponding number of days
in the prior year); compare the cutoffs of revenues with cutoffs in related
areas (e.g., receivables and inventories).
General procedures
Sales
· Observe procedures for recording cash sales transactions and safeguarding
cash receipts.
· Inquire about management, salespersons, or others receiving products
without billing or payment.
· Determine rights of return offered to customers under the terms of sales
agreements or as a matter of practice.
Also see procedure numbers 8, 9, 10, 14, and 28 under “Other procedures
below.
Other revenue
· Obtain detailed analyses of selected revenue accounts and trace the details
to the source data.
· Review the investments and related accounts (e.g., interest and dividend
· Test accrued interest and interest earned during the period on receivables;
determine whether interest should be imputed on long-term receivables
arising during the period.
· Examine the support for the charges to the other noncurrent credit
accounts in the balance sheet during the period.
· Review reconciliations of the amounts credited or charged to the other
noncurrent credit accounts in the balance sheet during the period with the
related income or expense accounts.
e REV 4/01 97
· Review the other noncurrent credit accounts in the general ledger for
unusual items.
· Review the investments and related accounts (e.g., interest and dividend
· Verify interest and dividend income on investments and equity in earnings
(losses) of investees by calculating interest earned or by referring to published
records of dividends paid or to the financial statements of investees.
· Verify computations of gains and losses from sales of investments.
· Verify calculation of amortization of bond premium or accumulation of
bond discount.
· Verify that interest and dividend income earned on obligations of or
investments in affiliates agree with the corresponding amounts in the
affiliates’ records.
· Inspect authorizations and other data supporting retirements, sales, and
other disposals of property, plant, and equipment and test the
computations of the resulting gains and losses.
· Identify and examine items that may require separate disclosure in the
financial statements, including the notes thereto (e.g., extraordinary items,
discontinued operations, segment information, gains or losses on foreign
currency transactions).
· Verify earnings per share computations.
· Review minutes, agreements, union contracts, budgets and plans for
evidence of new sources of revenues that may have been earned.
Investigate significant items noted.
occurred.
98 REV 4/01 e
Sales application:
3. Perform a proof of cash by reconciling activity per client records to
activity per the bank. Correlate activity with recorded sales for the year
and the change in the Accounts Receivable balance.
4. Test the records of products ordered and shipped to the sales records;
agree dates, customers, products, quantities, prices and amounts.
5. Test the posting of individual sales invoices to the sales register and to the
customers’ ledger.
6. Account for the numerical sequence of sales invoices, sales orders and
shipping documents during a specific period.
7. Test recorded sales to the records of products shipped; agree dates,
customers, products, quantities, prices and amounts.
8. Investigate large or unusual credit memos issued subsequent to the balance
sheet date.
9. Review the accounts receivable, sales, and returns and allowances
accounts in the general ledger for unusual items.
10. Review the sales register, the sales returns and allowances register, and the
cash receipts register for unusual items; investigate any such items
observed.
11. Test the pricing and mathematical accuracy of sales invoices.
12. Test the accounting classification of sales transactions.
13. Test the mathematical accuracy of the sales register.
14. Trace the accounts receivable to the customers’ ledger; investigate
reconciling items.
15. Test the postings of the totals in the sales register to the general ledger and
the customers’ ledger.
Sales, returns and allowances (credit memos) application:
16. Compare credit memos and supporting documents with the sales returns
and allowances register as to dates, customers, products, quantities,
prices, and amounts.
17. Account for the numerical sequence of credit memos during a specified period.
18. Test the posting of individual credit memos to the sales returns and
allowances register and to the customers’ ledger.
19. Compare recorded credit memos with the documents supporting returns
and allowances as to dates, customers, products, quantities, prices, and
amounts.
20. Test the authorization of credits, discounts, and allowances shown in the
cash receipts register.
21. Test the pricing and mathematical accuracy of credit memos.
22. Test the cutoff in processing credits and allowances granted to customers.
23. Test the timeliness with which credits granted to customers are processed.
24. Test the accounting classification of credit memos.
e REV 4/01 99
25. Test the mathematical accuracy of the sales returns and allowances
register.
26. Test the postings of the totals and the sales returns and allowance register
to the general ledger and the customers’ ledger.
27. Test and evaluate the procedures for approving customers’ credit and for
collecting past due accounts.
28. Test and evaluate the procedures for approving credits and allowances
granted to customers.
29. Test invoices and other original records of cash sales transactions to
recorded cash sales, and recorded cash sales to supporting documents.
30. Compare lists of cash receipts with the entries in the cash receipts register
as to date, source, amount, and account distribution.
32. Compare the total amounts of daily deposits shown on the bank statements
with the totals of the daily cash receipts shown in the cash receipts
register. Investigate unusual delays in depositing cash receipts and any
splitting of daily cash receipts into separate deposits.
33. Test the recording of miscellaneous receipts (i.e., receipts not usually
recorded as routine sales, such as scrap and royalties); consider whether
the recorded amounts are reasonable.
34. Compare entries in the cash receipts register (e.g., date, source, amount,
and account distribution) with lists of cash receipts, duplicate deposit slips
and bank statements.
37. Test the postings of the totals in the cash receipts register to the general ledger.
38. Test the authorization of credits, discounts and refunds in the cash receipts
register.
39. Perform cash counts on a surprise basis and reconcile counts to cash
register tape or other control total.
40. Investigate large or unusual refunds issued subsequent to the balance sheet
date.
41. Review cash receipts register and cash accounts in the general ledger for
unusual items. Investigate any such items observed.
42. Test the mathematical accuracy of sales invoices or other source
documents for cash sales.
43. Examine the client’s bank reconciliations (or prepare the reconciliations).
44. Confirm cash held by others (e.g., bank balances and/or overdrafts); count
or confirm cash on hand, if significant.
100 REV 4/01 e

45. Test cutoff of cash receipts, cash disbursements, and transfers at the
balance sheet date.
Procedures responsive to possible errors — sales application
O · Credits to sales accounts are not for sales. 3, 9, 10, 12

O · Credits to sales accounts are not represented by goods 1, 2, 3, 6, 7, 8, 9,
shipped. 10
M · Sales are incorrectly computed. 1, 3, 8, 11
C · Goods shipped are not recorded as sales. 2, 3, 4, 5, 6
C · Current or subsequent sales are recorded in the wrong 1, 2
period.
C · All sales are not credited to sales accounts. 3, 12
C · Sales register is not correctly totaled. 3, 13, 14

C · Totals in the sales register are not correctly posted to the 3, 14, 15
general ledger.
C · Sales invoice information is not correctly posted to the sales 1, 3, 5
register.
e REV 4/01 101

Procedures responsive to possible errors — sales returns and

allowances (credit memos) application
E · All returns and allowances are not debited to sales 3, 24, 28

accounts.
E · Debits for returned goods or other allowances are not 1, 8, 16, 17, 18,
recorded. 27, 28
M · Returns or allowances issued are incorrectly computed. 1, 3, 20, 21
C · Debits to sales accounts are not represented by returned 3, 9, 10, 17, 19,
goods or approved allowances. 20, 27, 28
C · Returns and allowances are recorded in the wrong period. 1, 8, 22, 23

C · Debits to sales accounts are not for returns and allowances. 3, 9, 10, 24, 28
C · Credit memo register is not correctly totaled. 3, 14, 25

C · Totals in the credit memo register are not correctly posted 3, 14, 26
to the general ledger.
C · Credit memo information is not correctly posted to the 1, 3, 18
credit memo register.
assertions.
102 REV 4/01 e

Procedures responsive to possible errors — sales and cash receipts

application
E, O · Debits to cash accounts are not for cash receipts. 3, 35, 43, 44
E, O · Credits to sales accounts are not for sales. 29, 33, 35, 39,
41, 43, 44, 45
O · Credits to sales accounts are not supported by cash receipts 3, 29, 33, 38, 39,
or merchandise credits. 40, 41
V · Recorded cash receipts do not agree with the amount 3, 30, 31, 32, 34,
deposited. 43, 44
M · Sales are incorrectly computed. 11, 12, 39, 40, 42
C · Actual cash receipts and related revenue are not recorded. 3, 29, 30, 31, 32,
33, 39, 43, 44
C · Goods delivered are not recorded as sales. 3, 29, 33, 39
C · Current or subsequent sales or cash receipts are recorded in 3, 40, 43, 44, 45
the wrong period.
C · All cash receipts are not debited to cash accounts. 3, 35, 43, 44
C · All sales are not credited to sales accounts. 29, 33, 35, 39,
41, 43, 44, 45
C · Debits to sales accounts are not for approved returns and 3, 35, 43
allowances/refunds.
C · Totals in cash receipts register not correctly posted to 3, 37, 43
general ledger.
C · Cash receipts information is not correctly posted to the cash 3, 29, 30, 31, 32,
receipts register. 33, 34, 38, 43
assertions.
e REV 4/01 103

Costs and Expenses

The principal objectives in auditing costs and expenses are to determine
whether:
· All costs and expenses in the income statement are properly supported as
charges against the entity in the period and are appropriately matched with
revenues. Costs and expenses applicable to future periods are carried
forward as inventories, prepaid expenses, deferred charges, or property,
plant, and equipment.
· All costs related to the current period’s revenues and all expenses of the
current period are included in the income statement.
· Costs and expenses are stated in the income statement at the appropriate
amounts.
· Cost and expenses are properly classified, described, and disclosed in the

account.
Nature of the item

·
expectations.
·
·
· Products or services acquired are difficult to differentiate.
· The nature of the products or services acquired is such that the quantity is
difficult to visually inspect, weigh, measure, or count, or is subject to
significant estimation.
· Documentation is susceptible to manipulation by the client staff.
· Disbursements are susceptible to misappropriation.
104 REV 4/01 e

· The volume of transactions is high.

· Purchases are normally made on a conditional basis (e.g., when
products/services are received on a trial basis, rental basis, or on
consignment).
· The title to products purchased normally passes before or after the receipt
of the product.
· There is little consistency in the nature of the products or services
received, the suppliers from whom products or services are acquired, the
volume of products or services purchased, or the volume of disbursements.
· There is inconsistency in the nature of services rendered (e.g., services
rendered which change due to seasonal nature of work).
· Payments are made before receipt of goods or services (e.g., deposits).
· Purchases are not usually made from large computerized suppliers (e.g.,
prices are manually assigned and invoice extensions and totals manually
calculated).
· Various benefit plans exist.
·
· Payroll expenses are usually determined on a conditional basis (e.g.,

compensation depends on the outcome of a future event such as the
number of items produced that will not be rejected by customers’ quality
control system in the case of piece work).
· There are numerous types of supporting evidence—e.g., various categories
of workers with different payment bases (piece work, hours, weekly, etc.).
· Basic data to compute payroll expenses is subject to frequent changes
(e.g., hourly rates).
· The method used for valuing payroll expenses is complex—e.g., different
wage rates, numerous deductions, different input data for quantity of work
performed (pieces, hours, days, etc.).
with the recording of the disbursement (e.g., checks prepared and recorded
but not mailed).
· Disbursements are made on an irregular basis.
· Significant disbursements in foreign currencies occur.
· The exchange rates of foreign currency disbursements are volatile.
· Various regulatory requirements are in effect in the manufacturing process
and in payroll-related matters.
· The manufacturing of finished products is a complex process.
· Standard costs are changed frequently and/or inventory component costs
are volatile.
· There is a significant number of new products.
e REV 4/01 105

· Current plant operating levels are unusually high or low.

during the year.
· The purchases, disbursements, and payroll functions are decentralized
(e.g., products or services are acquired from various locations).
· The disbursement function involves a third party (e.g., disbursements
prepared by an outside data center).
· There is dependence by or on employees or agents for a group of
employees, including related parties.
· There is economic dependence on or by one or more suppliers, including
related parties.
· The transactions or events leading to purchase recognition are not
controlled by the client (e.g., shipments are made to public warehouses or
directly to customers from suppliers).
· The client has a large number of plant locations.
experience.
Analytics
Cost of sales
· Compare the current period’s gross profit ratios (by month, by location,
by product, and by geographic area) with those of prior periods and with
budgeted amounts; investigate any large or unusual variations or the
absence of expected variations.
· Review the relationship with respect to the flow of goods, such as gross
profit analysis, comparison of standard and actual costs, and review of the
reconciliation between costs of sales and shipments.
· Compare the relationships of materials cost, direct labor cost, and
overhead cost to cost of sales with prior periods. Investigate significant
fluctuations or the absence of expected fluctuations.
· Compare the relationship of overhead costs in cost of sales to direct labor
(hours and/or dollars) with prior years.
106 REV 4/01 e

· Compare units purchased to units sold. Investigate significant or unusual

differences. Ensure that any differences noted are accounted for in the
change in inventory during the year.
· Compare the relationship of direct labor costs to number of employees
with prior periods. Investigate significant fluctuations.
· Compare average production and average compensation per employee with
prior years. Investigate significant fluctuations or the absence of expected
fluctuations.
Expenses
· Review the client’s comparisons of budgeted and actual costs and
expenses, by month or by quarter; corroborate the reasons identified by the
client for important variations; investigate any unexpected variations (or
the absence of expected variations) that were not identified by the client.
· Compare royalty expenses with the related sales.
· Compare sales commissions or bonuses with the related sales.
· Compare the current period’s relationship of administrative payroll to
direct labor with prior years. Investigate any unexpected variations (or the
absence of expected variations).
· Compare the current period’s relationship of employee benefits to payroll,
hours worked, or number of employees with prior years. Investigate any
unexpected variations (or the absence of expected variations).
· Compare the current periods’ relationship of pension contribution to
covered employees with prior years. Investigate any unexpected variations
(or the absence of expected variations).
· Compare payroll tax expenses to the annual payroll times the statutory tax
rates.
· Perform an overall test of interest expense by multiplying the average debt
outstanding by the weighted average interest rate.
· Compare the current period’s depreciation with the prior periods’ and with
budgeted amounts and with property, plant, and equipment balances.
1. Compare the current year’s expenses to the prior year’s actual and the
current year’s budgeted amount (in absolute dollars and/or as a percentage
of sales). Investigate any unexpected changes (or absence of expected
changes).
If expenses are audited at interim, review the rollforward of activity from
interim to year end and compare it to the activity in the equivalent period
of the prior year. Investigate any unexpected changes (or the absence of
expected changes). Consider the need to test interim transactions.
2. Review interim financial reports and investigate fluctuations (or the
absence of expected changes).
3. Perform an overall test of payroll expense by:
e REV 4/01 107

· Comparing the average rates per employee or per hour by group

(union, nonunion etc.) to the prior year or to the union contract;
· Analyzing labor variances from standard costs; and
· Reviewing the number of employees and the year-to-date listing of
amounts per employee.
General procedures
· Review the expense accounts in the general ledger for unusual items;
investigate any such items observed.
· Review components of significant prepaid and accrual accounts for
reasonableness if not significant. If not significant, compare prepaid
expense and accrued liability balances with those of prior periods.
Investigate significant fluctuations (or the absence of expected
fluctuations).
· Review minutes, agreements, union contracts, budgets, and plans for
evidence of new types of expenses that may have been incurred.
Investigate significant items noted.
· Identify and examine items that may require separate disclosure in the
financial statements, including the notes thereto (e.g., extraordinary items,
discontinued operations, and segment information).
· Review journal vouchers on a test basis for unusual items; investigate any
such items observed.
· Review the voucher register for unusual items; investigate significant
items noted.
· Review allocation of expense to departments for reasonableness.
· Trace the total of detailed listing of accounts payable to the total accounts
payable in the general ledger.
· Trace a sample of sales transactions to corresponding commissions (or
other sales expense).
occurred.
108 REV 4/01 e

4. Obtain detailed analyses of selected cost and expense accounts and trace
the details to the source data.
The following procedures have been written in the context of a check-based
banking system.
Where appropriate, e.g., to determine whether receipts or disbursements
reconciling items, perform bank reconciliation cutoff procedures.
6. Account for the numerical sequence of checks issued during a specific
period.
7. Test the comparability of paid checks and supporting documents with the
cash disbursements register as to date, payee, amount, and account
to prevent reuse.
8. Test vendor invoices to the cash disbursements register.
9. Compare goods and services ordered (purchase orders and purchase
requisitions) to vendors’ invoices.
10. Compare evidence of goods and services received to vendors’ invoices.
11. Test the comparability of entries in the cash disbursements register with
the paid checks and supporting documents as to date, payee, amount, and
account distribution; determine whether supporting documents have been
marked to prevent reuse.
12. Test cash disbursements journal to vendor invoices.
13. Examine vendors’ invoices, receiving reports, or other documents
supporting the account balances.
18. Test cutoff of disbursements and transfers at the balance sheet date.
19. Examine payments of expenses subsequent to the balance sheet date.
e REV 4/01 109

22. Test posting of items in the cash disbursements register to supporting

documentation.
Purchases application:
24. Confirm accounts payable.
25. Test the cutoff by inspecting the voucher register, receiving records,
vendors’ invoices and other supporting documents immediately before and
after the cutoff date and determine that the transactions were recorded in
the proper period; compare payables cutoff to cutoff in related areas (e.g.,
accounts payable and inventories).
26. Perform a search for unrecorded liabilities as of the inventory date and/or
year end by selecting subsequent disbursements and unmatched invoices
and receiving reports to examine.
28. Examine payments of balances subsequent to the balance sheet date to
verify recorded payables.
29. Compare entries in the voucher register to vendors’ invoices.
30. Test the account distributions of purchases in the voucher register by
comparing the nature of the goods or services purchased with the
descriptions of the accounts.
32. Test posting of items in the voucher register to supporting documentation.
33. Test the postings of the totals in the voucher register to the general ledger
Payroll application:
34. Examine or prepare a bank reconciliation of the payroll cash account and
where needed perform cutoff procedures.
35. Account for the numerical sequence of paid payroll checks during a
specified time period.
36. Compare the payrolls at the beginning and end of the period to identify
changes in employees and in pay rates.
37. Compare hours paid with the record of hours worked (e.g., time cards).
38. Trace the payroll checks to the payroll register.
39. Agree the record of labor performed (time cards or job tickets) to the labor
cost distribution or to the payroll register.
40. Obtain a list of employees who left during the period from a source other
than the payroll department (e.g., the personnel department), and
determine that the former employees were removed from the payroll on a
timely basis.
41. Observe, on a surprise basis, the distribution of payroll checks to
employees.
42. Investigate the handling of unclaimed payroll checks.
110 REV 4/01 e

43. Compare employee data (e.g., name, identification number, department,

employee status or group, location, wage rate, deductions) to
authorizations on file (e.g., hiring records, personnel files on wage rates
and reductions, union contracts, and authorization for income tax
withholding).
44. Compare names, net pay, and other data in the payroll register to the
canceled payroll checks. Examine endorsement(s) on payroll checks and
compare them to specimen signatures in the personnel files; investigate
unusual or multiple endorsements.
45. Test the extensions of the wage rates times the hours worked.
46. Test the mathematical accuracy of the individual labor cost distributions.
47. Review that the hours on the record of labor performed (e.g., time cards or
job tickets) are recorded in the payroll register or the labor distribution
journal in the correct period.
48. Reconcile the accrued payroll balance to the amount in the payroll register
for the corresponding period.
49. Examine payments of accrued payroll liabilities and/or payroll
disbursements subsequent to the end of the period.
50. Review the appropriateness of the labor cost distributions based on the
nature of the work performed (e.g., examine time cards or job tickets).
51. Test the mathematical accuracy of the payroll register and the labor cost
distribution.
52. Compare the labor cost distribution totals to the payroll register.
53. Test the postings of the totals in the payroll register and the labor cost
distribution to the general ledger and the subsidiary ledgers.
Also refer to “Inventory/Cost of sales application” under “Inventories.”

application
O · Debits to expense accounts (from cash disbursements) 1, 2, 4, 5, 6, 11,

are not represented by actual expenses or 12, 13, 14, 15
disbursements.
M · Charges to expense accounts are computed incorrectly. 1, 2, 4, 5, 13, 16, 17
C · Disbursements for expenses are not recorded. 1, 2, 4, 6, 7, 8, 9, 10
C · Expenses are recorded in the wrong period. 1, 2, 4, 5, 7, 11, 13,

18, 19
C · Cash disbursements for expenses are not classified as 1, 2, 20
expenses.
C · Cash disbursements register is not correctly 1, 2, 5, 21

summarized.
C · Cash disbursements are not correctly posted to cash 1, 2, 4, 5, 7, 8, 12, 22
disbursements register.
e REV 4/01 111

C · Amounts in the cash disbursements register are not 1, 2, 23

correctly posted to expense accounts and the general
ledger.
112 REV 4/01 e

O · Debits to expense accounts are not represented by goods or 1, 2, 4, 13, 14,

services received or other expenses. 15, 25, 28, 29
M · Charges to expense accounts are computed incorrectly. 1, 2, 4 13, 16, 17
C · Charges for goods or services or other expenses are not 1, 2, 9, 10, 24,
recorded. 25, 26, 27
C · Expense charges are recorded in the wrong period. 1, 2, 4,13,25, 26,
28
C · All expenses are not charged to expense accounts. 1, 2, 30

C · Debits to expense accounts are not for expenses. 1, 2, 4, 13, 30
C · Voucher register is not correctly summarized. 1, 2, 31
C · Charges (items) are not correctly posted to the voucher 1, 2, 27, 29, 32
register.
C · Totals in the voucher register are not correctly posted to 1, 2, 33
general ledger and subledger.
assertions.
Procedures responsive to possible errors — payroll application
O Charges to payroll accounts are not represented by services 3, 4, 34, 35, 36,
performed. 37, 39, 40, 41,
42, 43, 44, 50
M Payroll charges are incorrectly computed. 3, 4, 36, 43, 45,
46
C Services performed by employees are not recorded. 3, 34, 35, 36, 37,
38, 39
C Payroll charges are recorded in the incorrect period. 3, 4, 34, 47, 48,
49
C All charges for services performed are not in payroll accounts. 3, 39, 50
C Payroll register labor distribution and time cards are 3, 34, 46, 51, 52
incorrectly summarized.
C Payroll register/labor distribution is not correctly posted to the 3, 34, 53
general ledger.
C Payroll data are not correctly posted to the payroll 3, 34, 38, 39, 44,
register/labor distribution. 52
assertions.
e REV 4/01 113

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Appendix B — Substantive Testing of

Specific Account Balances

CASH, INCLUDING BANK BALANCES................................................................................................... 7

PROPERTY, PLANT, AND EQUIPMENT............................................................................................... 56

PRODUCT WARRANTY LIABILITIES ...................................................................................................77

To assist in selecting an appropriate mix of audit procedures that is responsive

Cash, Including Bank Balances

Inherent Risk Factors

Nature of the item

· The volume of cash activity is high.

9. Test the recording of miscellaneous receipts (i.e., receipts not usually

Procedures responsive to possible errors — cash receipts application

Assertion Possible Error Procedure #

E · Debits to cash accounts are not represented by actual cash 1, 2, 4, 7, 10, 15

Procedures responsive to possible errors — cash disbursements

Assertion Possible Error Procedure #

E · All cash disbursements are not credited to cash accounts. 1, 2, 4, 19

C · Cash disbursements register is not correctly totaled. 2, 4, 20

Inherent Risk Factors

Nature of the item

warehouses, from consignees, or directly from suppliers or returns made to

If accounts are confirmed at an interim date, review the “roll-forward” of

Other procedures responsive to our evaluation of processes resulting

34. Test the mathematical accuracy of the cash receipts register.

Procedures responsive to possible errors — sales application

Assertion Possible Error Procedure #

C · Sales register is not correctly totaled. 14, 15

Procedures responsive to possible errors — sales returns and

Assertion Possible Error Procedure #

E · Credits to customers for returns or allowances are not 1, 3, 9, 17, 18, 19

C · Returns or allowances are recorded in the wrong period. 1, 9, 24, 25

C · Credit memo register is not correctly totaled. 15, 27

Assertion Possible Error Procedure #

C · Cash receipts are recorded in the wrong period. 1, 37, 38

C · Cash receipts register is not correctly totaled. 15, 34, 37

Inherent Risk Factors

Nature of the item

· Payroll expenses are usually determined on a conditional basis (e.g.,

· Various regulatory requirements are in effect in manufacturing process

· Compare inventory quantities and/or costs by location, by type, and by

· Compare monthly/annual amounts purchased and/or production (by

4. Review the reconciliation of the physical inventory compilation with the

materials and purchased parts content of inventory, and on commitments

25. Review the reasonableness of the required materials shown on engineering

We consider performing these procedures when we have evaluated the controls

Procedures responsive to possible errors — physical inventory

Assertion Possible Error Procedure #

Possible Errors in Counting the Inventory:

Procedures responsive to possible errors — physical inventories

Assertion Possible Error Procedure #

Possible Mechanical (Compilation) Errors:

Procedures responsive to possible errors — purchases application

Assertion Possible Error Procedure #

E · Debits to Inventory accounts are not represented by goods or 38, 39, 40

Procedures responsive to possible errors — payroll application

Assertion Possible Error Procedure #

Procedures responsive to possible errors — inventory/cost of sales

Assertio Possible Error Procedure #

· Prepaid expenses are properly classified, described, and disclosed in the

Inherent Risk Factors

Nature of the item

· Determine that prepaid expenses are properly classified, described, and

Inherent Risk Factors

Nature of the item