TESTING THE INVENTORY PROCUREMENT SYSTEM

CASE 6

Recall:
Audit Process
Obtaining
evidence
about
Internal
Control
Operating
Effectiveness

Client
Acceptance
and
Continuance
Decisions
Performing
Risk
Assessment

Obtaining
Substantive
evidence
about
Accounts,
Disclosures
and
Assertions

Completing
the Audit
and Making
Reporting
Decisions

Lakesides Inventory
Procurement System
Generated

by DATA Processing
Systems of Richmond, Virginia

Understand
1. Documents
2. Process
flow
3. Internal
controls

Requisitio
n
Cash

disburseme
nt

Approval
of
payment/
verifying
agreeme
nt

Purchasi
ng

Receipt of,
and
accountin
g of
goods

Documents
Purchase

requisitions - Request for

purchase of goods or services by an

authorized department or function
Vendor

Invoices - the bill that is received by

the purchaser of goods or services from an

outside supplier.
Receiving

Report - an internal document

used to record what materials and inventory

Requisition

Cash

disbursement

Approval of
payment/
verifying
agreement

Purchasing

Receipt of,
and
accounting
of goods

Threats
Event

Affected Accounts

Possible
Manipulations

Return inventory to
supplier

INHERENT RISK
Inventory,
Inventory Accounts
is a complex
Payable
accounting and
auditing area.
It is usually material,
complex,
and subject
Accounts
Payable,
to manipulation
Inventory

Inventory is sold

COGS, Inventory

Record at too law an

amount
Not Record

Inventory becomes
obsolete

Loss on write-down of
inventory, Inventory

Not write-of

Periodic count of
inventory quantities

Inventory shrinkage,
Inventory

Double counting

Purchase inventory

Under-record
inventory
Record in a later
period
Not record
Overstate returns
Record returns in an
earlier period

Other manipulations
(Inventory)
Empty

boxes or hollow squares in

stacked goods
Mislabelled boxes containing scrap,
obsolete items, or lower-value
materials
Consigned inventory, inventory that
is rented, or traded-in items for
which credits have not been issued
Inventory diluted so it is less valuable

Controls (For Purchase)

Approval of a contract with suppliers

Restricted access to the inventory

Monitoring of inventory and purchase levels by

management

To avoid the risk of purchasing agents entering into

kickback arrangements with vendors, controls include:

Requiring competitive bids for large purchases

Rotating purchase agents across product lines

Mandating vacations for employees can be a useful control in

trying to prevent and detect fraud

Controls for Receipt of, and

accounting for, goods and services

Receiving department should make sure that:

Only authorized goods are received

Goods meet order specifications

Accurate count of the goods received is taken

Accountability is established to assure that all

receipts are recorded

THREE-WAY MATCH: CONTROL

FOR PAYMENT APPROVAL
Purchase Order
Receiving Information/ report
Vendor invoice

Process flow chart

Lakesides

Procurement System

Internal Control
Segregation

of Duties

Authorization Functions
Approval of Purchase Requisitions by Rogers
Assigning / Appointing higher officials involve in the
process( Inventory, Treasurer, Controller)
Recordkeeping Functions:
Controller
Custody of Asset Functions:
Inventory Department

PSA 200
Overall Objectives of the Independent
Auditor and the Conduct of an Audit
in Accordance with PSA
Owing to the inherent limitations of an audit,

there is an unavoidable risk that some material

misstatements will not be detected.
The auditor should design audit procedures to
obtain reasonable assurance that
misstatements arising from fraud and error that
are material to the FS taken as a whole are
detected.

Audit programs

Audit program are lists of audit procedures to be

performed by audit staf in order to obtain sufficient
appropriate evidence.

The individual procedures are determined after obtaining

an understanding of the accounting system and
determining the audit strategy to be followed.

The audit program reflect the understanding of the system

and will incorporate a mix of compliance (test of control)
and substantive tests that the auditor intend to perform.

The audit program is an important part of the auditors

working papers and records a significant part of the audit
evidence required to justify the audit opinion.

Purpose of Audit
Programs

A set of instructions to the audit team

Assist with planning and performance of the audit.

A means to control and record the proper execution

of the audit work and also to review the audit work.

A record of the audit procedures to be adopted, the

audit objectives, timing, sample size and basis of
selection of each criteria.

Audit evidence to support the auditor opinion.

Vouching

See pg.
781
(Cabrera
)

Auditors
Concern
Over-statement
and
Understatement
of Accounts

Tracing

Designing Audit
Procedures
Audit terminology for procedure
Client for documents/ roles/
processes
3. Be specific in your description
1.
2.

MOST COMMONLY USED AUDIT

PROCEDURES
AUDIT PROCEDURE

Definition

1. Analyze

To identify and classify items for

further study

2. Compare

To observe similarities and diferences

between related items

3. Confirm

To communicate with outside parties

to authenticate internal evidence

4. Count

To enumerate a characteristic

5. Examine

To review critically

6. Extend

To multiply

7. Foot

To add a column

8. Inspect

To scrutinize or critically examine a

document

MOST COMMONLY USED AUDIT

PROCEDURES
AUDIT PROCEDURE

Definition

9. Interrelate

To show relationship

10. Observe

To watch or test a client

11. Reconcile

To establish agreement between

separate sources of information

12. Test

To sample

13. Trace

To follow a transaction through the

steps of the system

14. Verify

To prove accuracy of numbers or

existence of amount

15. Vouch

To prove accuracy of accounting

entries by tracing to supporting
documents

Designing Audit
Procedures
Audit terminology for procedure
Client for documents/ roles/
processes
3. Be specific in your description
(see Exhibit 6-1)
1.
2.

Audit Documentation
Auditor

need to record (document)

all relevant audit matters from start
till end of audit
Keep PROPER DOCUMENTATION of
ALL MATTERS pertaining to audit and
justification of audit reports

Proper documentation
Working Papers
(WP)

Support audit
conclusion

Support audit
conclusion
Justify audit report

Either: documents,
information workings
obtained from client.
Past Fs, industry data, Trial
balance, loan agreement of
client, etc.
Or: information produced by
auditors
schedules, workings, audit
programs, planning
checklist

Wp: Must be retained by CA for 5 years

Must be kept confidential
Can be hard or soft (electronic media)
Produced by CA must meet standard quality of
good WP
Can be filed in either
-Permanent file
-Current file
Can be used in court in cases of negligence
Justify that a professional and efective audit
carried out
Record all info:
-Client acceptance
-planning
-Audit risks
-Audit programs
-Trial balance
-Audit schedules.......

Content
Each

audit working paper must be headed with the following

information:
The name of the client.
The period covered by the audit.
The subject matter.
The file reference.
The initials (signature) of the member of staf who prepared the

working paper, and the date on which it was prepared.

In

the case of audit papers prepared by client staf, the date

the working papers were received, and the initials of the
audit team member who carried out the audit work.
The initials of the member of staf who reviewed the working
papers and the date which the review was carried out.

Some characteristics of a
good working paper

State a clear audit objective.

State the name of client, subject matter, year/period end.

State the full extent of the test or audit objective.

Reference of linked documents.

How sample size were determined.

Clearly and objectively state the results of the test.

The conclusions reached should be consistent with result of

the test.

Main reference.

Signed and dated by preparer.

Signed and date by reviewer.

objective is
vague

Year is
missing
no
signature

Page
reference
is unclear

number for testing is

unclear

results of the test is

unclear

conclusion is not
consistent with th
results

Conclusion
Working papers provide evidence that an
effective, efficient, effective and economic
audit has been carried out. They should
therefore be prepared with care and skill.
They should be sufficiently detailed and
complete so that an auditor with no previous
experience of that audit can understand the
working papers in terms of the work
completed, the conclusions reached and the
reasoning behind these conclusions.

Heyman (Audit Procedures)

Choose

a date at random and, from

the receiving report file located in
the Inventory Department, select the
next 12 receiving reports.

Review

these documents for

completeness and authorization.
(see Receiving Reports)

Verify that each acquired item was

properly recorded in the inventory
purchases journal.
RCVRPT

vs IPJ

Verify that each acquired item was

properly recorded in the inventory
purchases journal.
RCVRPT

vs IPJ

Verify that each acquired item was

properly recorded in the inventory
purchases journal.
RCVRPT

vs IPJ

For each of these receiving reports, locate the corresponding

vendor invoice and purchase requisition filed in the
Treasurers Office. Verify the agreement of these three
documents as to quantity of goods and description of
acquired merchandise.

RECRPT

vs VI vs PR

For each of these receiving reports, locate the corresponding

vendor invoice and purchase requisition filed in the
Treasurers Office. Verify the agreement of these three
documents as to quantity of goods and description of
acquired merchandise.

RECRPT

vs VI vs PR

Verify that
the
requisitions
have each
been
approved
by the
proper
company

Note the clients

indication that prices
have been checked,
extended, and footed

Reconcile the prices on

the invoice to the master
price list found in the
Controllers Division

Locate the cancelled check for each invoice, matching the dollar amounts
and recomputing any appropriate discount.
Working Paper

-End of
ReportDONT STOP TILL YOU
GET TO THE TOP.
WHEN YOU GET TO
THE TOP, DONT STOP.