AUDITING

THE
REVENUE CYCLE

Group 2
Barcena, Maria Mikhaela Denise Mamucud, Jeric
Estuita, Rhenzo Ong, Tommy
Godoy, Bernadette Tulagan, Glazel
Hernandez, Jejomar Tabbu, John Nathaniel
Iglesia, Ed Michael Valerio, Bea
3 MAIN SECTIONS
I. Alternative technologies used in both legacy and modern system
II. Revenue Cycle, Audit Objectives, Controls, and test of controls that
auditor would perform to gather evidence needed to limit the scope,
timing and extent of substantive tests.
III. Revenue Cycle substantive tests in relation to audit objective.
ALTERNATIVE TECHNOLOGIES USED
IN BOTH LEGACY AND MODERN
SYSTEM
 BATCH PROCESSING USING
SEQUENTIAL FILES MANUAL
PROCEDURES
BATCH PROCESSING USING
SEQUENTIAL FILES MANUAL
PROCEDURES
1. Obtaining and Recording the Customers Orders
Begins with a customer order
Objective: to ensure that relevant data are transcribed to a standard format that can be
processed by the system
Document prepared in this phase is Sales Order Document

2. Approving Credit
Is basically verifying the customers creditworthiness.
Credit Authorization is sent to the Credit Department for approval
BATCH PROCESSING USING SEQUENTIAL FILES
MANUAL PROCEDURES
3. Processing Shipping Orders
Stock Release or Picking Ticket is sent by the Sales Department to the warehouse.
Before the arrival of the goods and the stock release copy, the Shipping department receives
the Packing Slip and Shipping Notice copies from the sales department.
BATCH PROCESSING USING SEQUENTIAL FILES
MANUAL PROCEDURES
3. Processing Shipping Orders
The Shipping clerk
reconciles the physical items with the stock release documents,
the packing slip, and the shipping notice to verify the correctness of
the order.
packages the goods, attaches the packing slip to the container,
completes the shipping notice, and prepares a Bill of Lading.
transfers custody of the goods, the packing slip, and two copies of
the bill of lading to the carrier, then
performs the following tasks:
Records the shipment in the shipping log.
Sends the stock release document and the shipping notice to the billing
department as proof of shipment.
Files one copy each of the bill of lading and the shipping document.
BATCH PROCESSING USING SEQUENTIAL
FILESAUTOMATED PROCEDURES

Data Processing
KEYPUNCH/DATA ENTRY
arrival of batches of shipping notices from the shipping department

shipping notices magnetic media = TRANSACTION FILE

(SALES ORDER)

Batch control totals are calculated for each batch on the file.
EDIT RUN
Typical tests include field checks, limit tests,
range tests, and price times quantity
extensions.

Sort Run
To process a sequential transaction file, it
must be placed in the same sequence as
the master file that it is updating.
AR UPDATE AND BILLING RUN

AR- SUB master file new AR-SUB master file

(unchanged)

Each sales transaction record processed is added to the

sales journal file. At the end of the run, these are
summarized and an entry is made to the journal voucher
file to reflect total sales and total increases to accounts
receivable.
SORT AND INVENTORY UPDATE RUNS
GENERAL LEDGER UPDATE RUN

Under the sequential file approach, the general ledger master

file is not updated after each batch of transactions.
Firms using sequential files typically employ separate end-of-
day procedures to update the general ledger accounts.
At the end of the day, the general ledger system accesses the
journal voucher file.
New general ledger is created.
The end-of-day procedures will also generate a number of
management reports.
BATCH CASH RECEIPTS SYSTEM WITH
DIRECT ACCESS FILES
Cash Receipts procedures are natural batch systems.
BATCH CASH RECEIPTS SYSTEM WITH DIRECT
ACCESS FILES
BATCH CASH RECEIPTS SYSTEM WITH DIRECT
ACCESS FILES
MAILROOM
Separates the checks and remittance advices
Prepares remittance list

Checks and a copy of remittance list are sent to cash

receipts department
Remittance advices and a copy of the remittance list are
sent to the AR department
BATCH CASH RECEIPTS SYSTEM WITH DIRECT
ACCESS FILES
CASH RECEIPTS DEPARTMENT
Reconciles the checks and remittance list
Prepares the deposit slips

Clerk
Via Terminal, creates journal voucher record of the total
cash received.
Files the remittance list and a copy of the deposit slip.
Deposits the cash in the bank.
BATCH CASH RECEIPTS SYSTEM WITH DIRECT
ACCESS FILES
ACCOUNTS RECEIVABLE DEPARTMENT
Receives and reconciles the remittance advices and
remittance list.

Clerk
Creates the cash receipts transaction file, via terminal
Files the remittance advices and the remittance list
BATCH CASH RECEIPTS SYSTEM WITH DIRECT
ACCESS FILES
DATA PROCESSING DEPARTMENT
Batch Program
Reconciles the journal voucher with the transaction files
of cash receipts
Updates the AR-SUB and the general ledger control
accounts (AR and Cash). This employs the direct access
method.
This system produces a transaction listing that the AR
clerk will reconcile with the remittance list.
 BATCH CONTROL

reconciles output produced with input originally entered

BATCH CONTROLS
Batch transmittal Sheet
Captures relevant information about the batch
Entered as separate control record that system uses to verify
integrity of the batch
BATCH CONTROLS
Gives assurance that:
all sales invoice and cash receipts were processed
No invoices or cash receipts were processed more than once
All invoices and cash receipts are accounted for
BATCH CONTROLS

TESTS: (completeness and Accuracy)

Reviewing transmittal records and reconciling with batch
control log
Determine cause of out of balance
Review and reconcile transaction listing, error logs, logs of
resubmitted records
REAL TIME PROCESSING SALES ORDER
ENTRY
 Start
Customer gives order to sales clerk
Sales clerk receives the order and uses a computer program to perform credit approval

Credit Approval
Performs a background check in the computer program
Customers Credit Limit
Current Balance
Customers Current Credit Status

The Programmed Criteria decides if credit is approved or

denied
 Inventory Management
Sales Clerk Checks the availability of inventory through the inventory
master file
System Prepares two documents
Stock release record - Warehouse department
Shipping notice Shipping department
Record the sales in open sales order file
 Warehousing
Terminal produces a hard copy printout of the Stock release
document
Gets the goods then sends it to shipping department with the Stock
release document
 Shipping
Checks goods if it aligns with Stock release document and packing slip
Select a carrier
Transmits information to the terminal
Invoice
Date
Carriers Information
System removes the open sales order file then closed to Sales invoice file
Sales Invoice is now printed
 CASH RECEIPTS
Two ways of receiving cash
Directly
Through Bank-Lock box
Remittance advices are given to AR dept. for updating of files
Closes the Open invoice record
 REAL TIME PROCESSING
FEATURES
Improves cash cycle of an entity
Reduction of lags between transactions compared to traditional processing which takes
several days to process.
Gives a competitive advantage in the marketplace
Enables a firm to maximize its customer service because of updated and accurate
information. (example: inventory count)
 Reduction of clerical errors
There is a great improvement in the identification of various kinds of errors when they
occur and also enhances the efficiency and effectiveness of operations.

Reduction of paper documents in the system

Electronic documents are cheaper and more effective and accurate for audit trail
purposes
POINT OF SALE SYSTEM
 Point of Sale (POS) are used at the time and place where
retail transaction is made, POS computer systems
terminals.

It is a computer software and hardware networked

together to track sales and inventory as occur.

The point at which customer makes payment in exchange of

goods at the same time, the cashier executes the system to
calculate amount owed providing options of customer to make
payment either cash, check, ATM or credit card.
EXAMPLES:
 Reading product tags, updating inventory are some of the
operations performed at the point of sale.

The cashier scans universal product code (UPC) where it is

connected to POS system that an inventory file is included.
 BENEFITS OF USING POS
1. Efficient transaction Processing
2. Better record keeping
3. Effective use of information
4. Cost saving
COMPUTERIZED POS
SAMPLE DOCUMENTS
PACKING SLIP
Open Invoice Record
SHIPPING NOTICE
OPEN SALES ORDER
REVENUE CYCLE, AUDIT OBJECTIVES, CONTROLS, AND
TEST OF CONTROLS THAT AUDITOR WOULD PERFORM
TO GATHER EVIDENCE NEEDED TO LIMIT THE SCOPE,
TIMING AND EXTENT OF SUBSTANTIVE TESTS.
 INPUT CONTROLS

Designed to ensure that all transactions are valid, accurate and complete
CREDIT AUTHORIZATION PROCEDURES
Credit check- establish credit worthiness of customer
Batch system with manual authorization procedures
POS
Computerized Credit checks

TESTS: (Valuation/Allocation, Accuracy)

Programmed decision Rules
Test Data or ITF (Integrated Test Facility)
Dummy accounts
Reference data
Substantive test for excessive credit limit
Authorization of changes in credit limit
DATA VALIDATION CONTROLS
Batch Processing sequential
Extensive error logs
Error correction
Transaction resubmission procedures
POS
Real time validity test
Minimize human data entry
TESTS: (Accuracy)
Testing the logic of validation program
Auditor may rely on the quality of other controls
ITF or test data
Error listing and error
 BATCH CONTROL

reconciles output produced with input originally entered

BATCH CONTROLS
Batch transmittal Sheet
Captures relevant information about the batch
Entered as separate control record that system uses to
verify integrity of the batch
Gives ssurance that:
all sales invoice and cash receipts were processed
No invoices or cash receipts were processed more than once
All invoices and cash receipts are accounted for
Batch controls
TESTS: (completeness and Accuracy)

Reviewing transmittal records and reconciling with batch

control log

Determine cause of out of balance

Review and reconcile transaction listing, error logs, logs of
resubmitted records
 PROCESS CONTROL

Include computerized procedures for file updating and restricting

access to data.
FILE UPDATE CONTROLS
Ensure that each run in the system processes the batch correctly and
completely.
Discrepancy may indicate that
A record was lost in processing
A record in the batch went unprocessed
A record was processed more than once.

3 CONTROLS TO FILE UPDATING

I. Transaction Code Controls
Determines the actual task performed by application
In revenue Cycle, errors in transaction codes, or in the program logic that
interprets them, can cause incorrect processing of transaction and may result in
materially misstated sales and accounts receivable
 3 CONTROLS TO FILE UPDATING
II. Sequence Check Control
Order of transaction records in batch processing
Should be in place to compare the sequence of each record in the batch with the
previous record to ensure that proper sorting took place.
Problems that may occur in revenue cycle when there is an out-of-sequence sales
order record.
Prevent remaining downstream records to be processed.
Downstream are processed against the wrong customer.

III. Testing File Update Controls.

Failure of file update controls to function properly can result
Records going unprocessed
Records being processed incorrectly
Records being posted to the wrong customers account.
provide the auditor with evidence relating to the assertions of existence,
completeness, and accuracy.
 ACCESS CONTROLS

Prevent and detect unauthorized and illegal access

to the firms assets.
At the heart of accounting information integrity.
 INVENTORIES
CASH
Traditional techniques used to limit access to these assets
includes:
Using warehouse security, such as fences, alarms, and
guards.
Depositing cash daily in the bank
Using a safe or night deposit box for cash
Locking cash drawers and safes in the cash receipts
department
 RISK SPECIFIC TO THE REVENUE
CYCLES

An Individual with access to the AR subsidiary ledger could remove

his or her account from the books.
Access to blank sales order may enable unauthorized individual to
trigger the shipment of a product.
An Individual with access to both cash and accounting records could
remove cash from the firm and cover the act by adjusting the cash
account.
An Individual with access to physical inventory and inventory records
could steal products and adjust the records to cover the theft.
TESTING ACCESS CONTROL
Evidence gathered about effectiveness of access controls test the
management assertions of:
Completeness
Accuracy
Valuation and Allocation
Rights and Obligations
Presentation and Disclosures

Control Techniques in Access Control includes:

Passwords
Data Encryption
Fire Walls
User Views
PHYSICAL CONTROLS
PROPER SEGREGATION OF DUTIES
Ensures that no single individual or department
processes a transaction in its entirety.

Rules to apply
1. Transaction authorization should be separate from transaction
processing.
2. Asset Custody should be separate from the record-keeping
task.
3. Organization should be so structure that the perpetration of a
fraud requires collusion between two or more individuals.
Record-keeping functions must be carefully divided.
SUPERVISION
A compensating control when firms have too few
employees to achieve an adequate separation of functions.
Can also provide control in systems that are properly
segregated.

INDEPENDENT VERIFICATION
Purpose is to review the work performed by others at
key junctures in the process to identify and correct
errors.
EXAMPLES OF INDEPENDENT VERIFICATION
IN REVENUE CYCLE
Shipping department verifies that the goods sent from the warehouse
are correct in type and quantity.
Stock release document and the packing slip are reconciled to
identify discrepancy
Billing department reconciles the shipping notice with the sales invoice.
Ensure that customers are billed only for the items and quantities
that were actually shipped.
 TESTING PHYSICAL CONTROLS
Physical controls prevent unauthorized access due to collusion and
incompatible duties
Manual
Review job descriptions and organizational charts
Observe physical process
Computer-based - Integrated tasks on computer programs
Review systems development and maintenance and organizational structure
Focus on integrity of program performing the tasks
Is the logic of the program correct?
Has it been tampered with since last tested?
Have changes made in the program caused an undisclosed error?
 OUTPUT CONTROLS

Designed to ensure that information is not lost,

misdirected, or corrupted and that system
processes function as intended.
 Output Controls Can be designed to identify potential problems.
Exception report derived from the customer open order file listing end-of-day open sales
can identify orders placed and not shipped.

Reconciling General Ledger

an output control that can detect certain types of transaction processing errors.

Another important element of output control

Maintenance of an audit trail
Details of transaction produced at intermediate points can provide an audit trail that
reflects activity through every stage operations.
REVENUE CYCLE SUBSTANTIVE TESTS IN
RELATION TO AUDIT OBJECTIVE
GENERAL CONCERNS IN REVENUE
CYCLE
Overstatement of Revenue & Accounts
Receivable
Large & Unusual Transactions at or near period
end
Ex.
1. Non-Existent sales transactions
2. Failure to recognize cutoff points
3. Realizing an unrealized revenue
4. Understatement of Allowance for Doubtful Accounts
5. Billing sales to customers that are held by the seller
DATA FILES
Customer File
Contains credit & general information about the customer
Sales Invoice File
Contains summary data for each invoice
Cash Receipts File
Summary data for each invoice paid
Line Item File
Contains a record of every product sold
Inventory File
Contains quantity, price, supplier and warehouse location data for each item
of inventory
Shipping File record of all sales orders shipped to customers
FILE STRUCTURES FOR REVENUE CYCLE
TESTING THE ACCURACY
AND COMPLETENESS
ASSERTIONS
 USE OF SUBSTANTIVE TESTS WITH AN
ANALYTICAL REVIEW

Trends in sales
Trends in cash receipts
Trends in AR
Note:
Analytical procedures in revenue
cycle do not necessarily require
computer technology.
REVIEW SALES INVOICES FOR UNUSUAL
TRENDS AND EXCEPTIONS

Examples:
AR with excessively large amounts
that indicate organizations credit
policy is being improperly applied
Credit balances in AR
AUDIT PROCEDURE:
ACLS STRATIFY GROUPS DATA INTO
PREDETERMINED INTERVALS AND COUNTS
THE NUMBER OF RECORDS THAT FALL INTO
EACH INTERVAL
Since this is a Sales Invoice file, it should
normally contain only positive answers.
Negative numbers may have been
inserted into the records in a number of
ways. Such as:
Defective computer program
Unintentional clerical errors
Effort to reverse an erroneous sales transaction
Fraudulent attempt to reduce customers AR balance
ACLS FILTER CAPABILITY

Used to select or ignore specific records from

an entire file
Example: filtering negative invoice amount from
Sales Invoice file
The resulting view is much smaller and provides
the auditor with the details needed to investigate
these anomalies. Sample records from the
filtered file are below:
REVIEW SALES INVOICE AND SHIPPING LOG FILES
FOR MISSING AND DUPLICATE ITEMS
Searching for missing and/or duplicate transactions is another
important test that helps the auditor corroborate or refute the
completeness and accuracy assertions. Missing and duplicate
transaction may be evidence of over/under statement of sales
and AR.
Duplicate sales invoice records may indicate a computer
program error that materially overstates sales and AR
Missing sales invoice may point to an unrecorded sale that
was shipped but not billed, thus understating sales and AR
ACL IS CAPABLE OF TESTING A DESIGNATED FIELD
FOR OUT-OF-SEQUENCE RECORDS, GAPS IN
SEQUENCE NUMBERS, AND DUPLICATE VALUES
FOR THE ENTIRE FILE
Using this feature, the auditor can scan the Invoice Number field of all records in
the Sales Invoice file. The ACL system would return an on-screen report similar to:
AUDIT PROCEDURE:

The auditor will need to interview management and employees involved in the
process and seek answers to the following types of questions:
Are procedures in place to document and approve voided invoices?
How are gaps in sales invoices communicated to management?
What physical controls exist over access to sales invoice source documents?
Are batch totals used to control total transactions during data processing?
Are transaction listings reconciled and reviewed by management?
SHIPPING LOG FILE
AUDIT PROCEDURE:
Invoices missing from the shipping log provide evidence that
also tests the existence or occurrence assertions. The auditor
seeks assurance that sales revenue is recognized only when
appropriate criteria are met. In most organizations, this means
that sales recognized only when the products are shipped. The
auditor should review the shipping log for the following period to
determine if the missing invoice numbers are recorded there. If
so, this would indicate that the merchandise was shipped after
the cut-off period. It may be necessary to adjust the sales and
accounts receivable balances accordingly.
REVIEW LINE ITEM AND INVENTORY FILES FOR
SALES PRICE ACCURACY
Tradition: auditors would verify pricing accuracy by
comparing sales prices on the invoices with the
published price list. Therefore, out of thousand of
sales records, perhaps only one or two hundred
would be tested.

With the use of ACL, it allows the auditor to

compare prices charged on every invoice in the file
for the period under review.
EXAMPLE:
AUDIT PROCEDURE:

Compare the actual price charged to retail price.

The actual price charged is the Sales Price while
the retail price is the retail price itself. There is a
common field in these two tables namely Item
Number. Significant discrepancies can then be
identified and investigated.
ACTUAL STEPS

1. Both of the files need to be ordered according to their common key. Item number is
the primary key of the inventory master file. Since the Line Item file contains the
details of the Invoice file, it is probably organized by Invoice number at this time. The
problem now is the sorting of Item Number field which the ACLs Sort feature must be
used.
2. Next step would be to combine the two files to create a third. ACL accomplishes
this with its Join feature. The one most relevant to this test is to create a third file that
consists only of matched records. The file structure of the new file and some sample
records are presented in the table below.
RESULT:

The file may be very large but with the use of ACL, the auditor
can calculate the total price variance and make a
determination as to its materiality. If material, this issue
would need to be pursued with management.
TESTING OF UNMATCHED RECORDS

Two possible causes:

Because of the value of the Item Number field in the Line Item record is incorrect
and does not match an Inventory record
Presumption: inventory master file is correct, then any Line Item records
in the unmatched file are errors
Source: Inventory file. The presence of Inventory records in the unmatched files
means that there were no corresponding records in the Line Item file. This result
is not an error but there is really no sale during the period. After adjusting for any
seasonal influences on sales, such evidence may refute the valuation assertion.
The auditor may require that the inventory be written down to reflect its market
value.
TESTING THE EXISTENCE
ASSERTION
Confirmation of Accounts Receivable
It involves direct written contract between the auditors and the
clients customers to confirm account balances and transactions.
Statement on Auditing Standards No. 67 (The Confirmation
Process) the auditors should request confirmations of accounts
receivable except in the following situations:
1. Accounts receivable are immaterial
2. Based on the review of internal controls, the auditor has
assessed control risk to be low
3. The confirmation process will be ineffective.
Open Invoice System
Invoices are recorded individually rather than being summarized or
grouped by creditor.
No accounts payable subsidiary ledger exists. Each invoice is paid
(closed) as it comes due.
STAGES OF CONFIRMATION PROCESS

Selecting Accounts to Confirm

Involves processing data that are contained in both the customer and the sales
invoice files. Each customer is associated with one or more sales invoice record.
The sales invoice file provides the financial information needed for the confirmation
request, and the customer mailing information contained in the Customer file.
Obtaining a set of accounts for confirmation requires:
1) Consolidate Invoices - select only the open sales invoices (those with blanks in the
Remittance Number field) and to summarize the Invoice Amount field for each record based
on the Customer Number.
The summarized records are then passed to a new file called Classified Invoices.
2) Join the Files next step is to join the classified
invoices fine and the customer file to produce another
new file called accounts receivable. Recall that when
using ACLs join feature both files must be ordered on the
same key. This requires first sorting the classified
invoices file by customer number to place it in the same
sequence as the customer master file. The join feature
allows the auditor to select only relevant fields from each
of the input files when creating the new file. In this
example, Credit limit, which is not needed for preparing
the confirmations, has been dropped from the new
accounts receivable file structure.
3) Select a Sample of Accounts there are two sampling methods used: random sampling
and monetary unit sampling. The choice of method will depend on the auditors strategy and
the composition of accounts receivable file.

Preparing Confirmation Requests

Contains the information captured in the AR-sample file.
The requests, which usually take form of letters, are drafted and administered by the
auditor, but are written in the clients entity name.
Positive Confirmation
It is useful when the auditor suspects that a large number of accounts may be in
dispute.
Used in confirming unusual or large balances or when a large proportion of total
accounts receivables arises from a small number of significant customers.
Disadvantage: Poor response rate

Negative Confirmation
It requests the recipients to respond only if they disagree with the amount shown in
the letter.
Used primarily when accounts receivable consists of a large number of low-value
balances and the control risk of misstatement is considered to be low.

Disadvantage: Responses to negative confirmations, particularly if they are widespread

in a large population, may indicate a potential problem
Evaluating and Controlling Responses

Evidence provided through confirmation is less reliable when contact between the
auditor and the debtor is disrupted by client intervention. The auditor should take all
reasonable steps to ensure ff. procedures are observed:

The auditor should retain custody of the confirmation letters until they are
mailed.

The confirmation letters, together with self-addressed stamped envelopes,

should be addressed to the auditor, rather than client organization.

The confirmation request should be mailed by the auditor. If client mailroom

personnel participate in the process, they should be adequately supervised.
TESTING VALUATION/ ALLOCATION
ASSERTION
VALUATION & ALLOCATION
Audit Objective:
To corroborate or refute that accounts receivable
are stated at net realizable value
Audit Procedure
review the accounts receivable aging process to
determine that the allowance for doubtful accounts
is adequate.
 KEY ISSUES IN ALLOWANCE FOR
DOUBTFUL ACCOUNTS
Adequacy
Reasonableness
Consistency