1. CHAPTER 12 Substantive Audit Testing: Expenditure Cycle

2. What are the primary audit objectives with regard to inventory?
- existence

3. What are the primary audit objectives with regard to inventory?
- existence
- rights
ABC Electronics Co.
Sales Invoice

4. What are the primary audit objectives with regard to inventory?
- existence
- rights
- accuracy

5. What are the primary audit objectives with regard to inventory?
- existence
- rights
- accuracy
- realizable value

6. What is the primary audit procedure with regard to inventory?
Observe the client’s
inventory-taking
procedures.

7. What is the primary audit procedure with regard to inventory?
Observe the client’s
inventory-taking
procedures.
required
by AU
331

8. When do client inventory-taking procedures occur?
December
If the client has a
periodic inventory
system, the
physical inventory
count determines
the balance in
inventory accounts and will probably
occur on the balance sheet date.

9. When do client inventory-taking procedures occur?
June
If the client has a
perpetual inventory
system, the
physical inventory
count may occur
any time during
the accounting period.
Whenever the count occurs, the auditor
is required to observe.

10. Some clients use statistical sampling in their inventory methods.
why?

11. Some clients use statistical sampling in their inventory methods.
reduces
the need to count
every inventory item
(sample results can be
statistically extended
to the population)

12. Some clients use statistical sampling in their inventory methods.
What are the auditor’s concerns?

13. Some clients use statistical sampling in their inventory methods.
The auditor is concerned that
the statistical inventory plan:
- has statistical validity
- is properly applied
- achieves reasonable results

14. Should the auditor test beginning inventory balances?
When the auditing firm has not audited
beginning balances, the auditors must
satisfy themselves as to the appropri-
ateness of beginning balances, if they
are satisfied as to the current balances.
how?

15. how? When the auditing firm has not audited
beginning balances, the auditors must
satisfy themselves as to the appropri-
ateness of beginning balances, if they
are satisfied as to the current balances.
how?
review of prior
inventory
count records
tests of inventory
transactions and
documents
analytical
procedures

16. How should the auditor test inventory held at a public warehouse?
client head-
quarters &
auditor’s
office
public
warehouse

17. How should the auditor test inventory held at a public warehouse?
- direct written confirmation with the
public warehouse
Confirmation, alone, will not be sufficient if inventory quantities held at the warehouse
are significant.

18. How should the auditor test inventory held at a public warehouse?
- direct written confirmation with the
public warehouse
- if inventory held at the public ware-
house is significant:
~ review client’s procedures for
investigating and evaluating the
warehouse

19. How should the auditor test inventory held at a public warehouse?
- direct written confirmation with the
public warehouse
- if inventory held at the public ware-
house is significant:
~ review client’s procedures for
investigating and evaluating the
warehouse
~ obtain report from warehouse’s
auditor regarding internal controls

20. How should the auditor test inventory held at a public warehouse?
- direct written confirmation with the
public warehouse
- if inventory held at the public ware-
house is significant:
~ review client’s procedures for
investigating and evaluating the
warehouse
~ obtain report from warehouse’s
auditor regarding internal controls
~ observe warehouse’s physical
counts (if practical)

21. What are the auditing implications?
Some large merchandisers use outside inventory-taking companies that specialize in counting inventory.
What are the
auditing
implications?

22. Some large merchandisers use outside inventory-taking companies that specialize in counting inventory.
- since the inventory-taking company
is a third party, their work has greater
reliability than the client’s

23. Some large merchandisers use outside inventory-taking companies that specialize in counting inventory.
- since the inventory-taking company
is a third party, their work has greater
reliability than the client’s
- the auditor still should observe the
physical inventory count

24. Some large merchandisers use outside inventory-taking companies that specialize in counting inventory.
- since the inventory-taking company
is a third party, their work has greater
reliability than the client’s
- the auditor still should observe the
physical inventory count
- the auditor must test the effectiveness
of the inventory-taking company’s
procedures

25. inventory audit procedures
perform analytical procedures
to test inventory
reasonableness

26. inventory audit procedures
regarding the client physical inventory count:
Review the client’s plan for counting
the physical inventory. Attend
client count planning
meetings.

27. inventory audit procedures
regarding the client physical inventory count:
Observe the physical inventory count.
Determine whether client counting methods
are effective.

28. inventory audit procedures
regarding the client physical inventory count:
Observe the quality and condition of the
inventory. Consider obsolescence.

29. inventory audit procedures
regarding the client physical inventory count:
On a random basis:
- select a sample of inventory items from the
warehouse floor, count them, trace the
quantity to client count records

30. inventory audit procedures
regarding the client physical inventory count:
On a random basis:
- select a sample of inventory items from the
client count records, find them in the
warehouse, count them

31. inventory audit procedures
regarding the client physical inventory count:
On a random basis:
- select a sample of inventory items from the
client count records, trace them to the
perpetual inventory records
4/30/x7 Physical
Inventory
18# widgets
- purple
4/30/x7 Physical
Inventory
18# widgets
- purple
perpetual inventory
description qty
widgets - red 87
widgets - green 4
widgets - purple 18
4/30/x7 Physical
Inventory
18# widgets
- purple

32. inventory audit procedures
regarding the client physical inventory count:
On a random basis:
- select a sample of inventory items from the
perpetual inventory records trace them to
the client count records
4/30/x7 Physical
Inventory
18# widgets
- purple
4/30/x7 Physical
Inventory
18# widgets
- purple
perpetual inventory
description qty
widgets - red 87
widgets - green 4
widgets - purple 18
4/30/x7 Physical
Inventory
18# widgets
- purple

33. inventory audit procedures
determine whether any inventory has been pledged as collateral (disclosure)

34. inventory audit procedures
Inquire of client management regarding the existence of consigned inventories.
consignments “R” us
ACE

35. inventory audit procedures
Inquire of client management regarding the existence of consigned inventories:
- if a consignee holds a portion of the
client’s inventory, confirm that amount
with the consignee

36. inventory audit procedures
Inquire of client management regarding the existence of consigned inventories:
- if a consignee holds a portion of the
client’s inventory, confirm that amount
with the consignee
- if a client consignee holds a portion of
a consignor’s inventory, confirm that
amount with the consignor

37. inventory audit procedures
Consider the effects of sales and purchases cutoff tests on inventories.

38. inventory audit procedures
Test the client’s application of their inventory valuation method (FIFO, LIFO) and the lower-of-cost-or-market rule.

39. inventory audit procedures
For manufactured inventories:
test the cost accumulation process as it affects valuation of ending inventories and COGS

40. Auditing Plant Assets - perform analytical procedures
- verify current-year acquisitions
- verify current-year disposals
- verify ending asset balances
- verify depreciation expense
- verify ending accumulated de-
preciation balances

41. Auditing Plant Assets - perform analytical procedures
examples: depreciation expense / equipment
manufacturing costs / production

42. Auditing Plant Assets - verify current-year acquisitions
~Select a sample of entries in the acqui-
sitions journal and trace to fixed asset
master file.
sitions journal and trace to vendor in-
voices and receiving reports.
sitions journal and physically examine
the related assets.

43. - verify current-year disposals
Auditing Plant Assets
- verify current-year disposals
~ analyze gains on the disposal of as-
sets and miscellaneous income for
receipts from asset disposals
~ review plant modifications and
changes in product line, taxes, or in-
surance coverage for indications of
deletions of equipment
~ make inquiries of management and
production personnel about disposals

44. - verify ending asset balances
Auditing Plant Assets
- verify ending asset balances
EXAMPLE PROCEDURE: Trace totals
from fixed asset master file to the
general ledger.

45. Auditing Plant Assets
- verify depreciation expense
- recalculate depreciation
expense
- determine whether the client’s
depreciation policy is
consistent

46. Auditing Plant Assets Recalculate accumulated depreciation
What audit procedures address
the auditor’s concern regarding accu-
racy of accumulated depreciation?
Trace totals from fixed asset
master file to the general
ledger.
Recalculate
accumulated
depreciation