Internal Control | Revenue Cycle
Before you can test a client’s internal controls you first need to know which internal controls are in place. The auditor can identify the internal controls by asking the client’s employees to complete a questionnaire and by doing a walkthrough of the revenue and collection cycle.
The walkthrough would involve following a sale from the initial customer purchase all the way through to the collection of the receivable.
If the auditor notices an area where a misstatement might occur during the walkthrough, the auditor should ask: has the client designed a control that, if operating effectively, would prevent or detect a material misstatement?
The auditor should also be sure to consider entity-level controls. For example:
• Does the audit committee play an active role?
• Does management closely monitor sales returns?
• Does management closely monitor writeoffs of accounts receivable?
• Does management inspect aged accounts receivable for issues with collectability?
If the client has strong entity-level controls in place, this improves the control environment and reduces the risk of material misstatement.
In addition to considering entity-level controls, the auditor should also identify the internal controls pertaining to each management assertion.
For example, a 3-way match of a purchase order, a shipping document, and a sales invoice provides evidence about the occurrence of revenue and the existence of a receivable. Verifying the dates on these documents provides evidence about the cutoff assertion. The use of prenumbered documents provides evidence about the completeness assertion. Comparing these documents ensures that the correct type of goods and the correct quantity of goods have been shipped to the correct location and at the correct price and terms of trade. This provides evidence about the authorization and accuracy assertions.
Segregation of duties is critical for the revenue and collection cycle. Remember that the revenue and collection cycle consists of 5 parts:
1. Receiving and processing customer orders
2. Approving credit
3. Delivering goods and services
4. Billing customers and managing accounts receivable
5. Collecting and depositing cash
Different people or departments should be responsible for each of these 5 steps. Allowing one person to perform a combination of these activities increases the risk of fraud or other problems.
0:00 Introduction
0:20 How to identify the client's internal controls
0:49 Entity-level controls
1:16 Internal controls related to revenue
2:16 Segregation of duties
2:57 Internal controls related to accounts receivable
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