1. CHAPTER 19 Audit of the Inventory and Warehousing Cycle

2. What is the sequence of functions in the inventory and warehousing cycle?

3. 1. An employee recognizes a need for a purchase; com-
pletes a requisition and sends
it to purchasing.
Ace Company
PURCHASE
REQUISITION
The production
dept. needs 200
lbs. of dry #4
solvent.
authorized
employee
PURCHASING
DEPARTMENT

4. 2. Purchasing shops for the ap- propriate quality at the best
price, then prepares a pur-
chase order.
PURCHASING
DEPARTMENT
Ace Company
PURCHASE
ORDER
BIG
Chemical Co.
To: Big Chemical Co.
Please ship 200
lbs. of dry #4 sol-
vent by 6/2/x0.
Price $38.40/lb.
purchasing agent

5. 3. When goods arrive from the vendor, the receiving dept.
inspects, counts, and pre-
pares a receiving report.
RECEIVING
DEPARTMENT
Ace Company
RECEIVING
REPORT
BIG
Chemical Co.
Received 200 lbs.
of dry #4 solvent
on 6/1/x0.
Condition: OK
BIG
Chemical Co.
receiving employee

6. 4. Goods are moved from re- ceiving to a warehouse; per-
petual inventory is updated.
RECEIVING
DEPARTMENT
WAREHOUSE
perpetual inventory
description $$
6/1/X0-dry #4
solvent-200 lbs.7680

7. 5. When needed, goods are moved from
the warehouse to production; perpetu-
al inventory and cost accounting re-
cords are updated.
WAREHOUSE
PRODUCTION
DEPARTMENT
perpetual inventory
description $$
6/1/X0-dry #4
solvent-200 lbs.7680
6/8/x0-trans.200
lbs. to prod
cost acctg. system
description _ $$ _
June 8, 19x0
Raw mat’l added
- dry #4 solvent
(200 lbs.)

8. 6. When finished, goods are moved from
production to the warehouse; perpetu-
al inventory and cost accounting re-
cords are updated.
WAREHOUSE
PRODUCTION
DEPARTMENT
perpetual inventory
description $$
6/9/X0-fin.goods
50 gallons-x7g 9680
cost acctg. system
description _ $$ _
6/9/x0-trans.
50 gallons of
finished x7g
to warehouse 9680

9. 7. When sold, goods are shipped and perpetual inventory re-
cords are updated.
Ace Co. A C E
perpetual inventory
description $$
6/9/X0-fin.goods
50 gallons-x7g 9680
8/5/x0- sold 30
gallons-x7g

10. What are the primary audit objectives with regard to inventory?

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

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

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

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

15. What is the primary audit procedure with regard to inventory?

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

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

18. When do client inventory-taking procedures occur?

19. 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.

20. 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.

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

22. 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)

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

24. 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

25. Should the auditor test beginning inventory balances?
January

26. 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.

27. 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?

28. 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

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

30. How should the auditor test inventory held at a public warehouse?
- direct written confirmation with the
public warehouse
Are additional
procedures
necessary?

31. 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.

32. 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

33. 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

34. 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)

35. Some large merchandisers use outside inventory-taking companies that specialize in counting inventory.

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

37. 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

38. 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

39. 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

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

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

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

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

44. 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

45. 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

46. 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

47. 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

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

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

50. 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

51. 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

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

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

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