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Chapter 11 - Accounts Receivable, Notes Receivable, and Revenue
11-1
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any
manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
CHAPTER 11
Accounts Receivable,
Notes Receivable, and
Revenue
Review Questions
11–1 The term "customer's order" refers to the purchase order received from a customer. The term "sales
order" refers to the document created upon receipt of a customer's order. The sales order is a
translation of the terms of the customer's order into a set of specific instructions for the guidance of
various departments, including the credit department, finished goods, stores, shipping, billing, and
accounts receivable.
11–2 The audit of revenue and receivables is of significant audit risk because (1) overstatement of revenue
has been a factor in many instances of fraudulent financial reporting, (2) the overstatement of revenue
esults in a co
esponding overstatement of net income, (3) the determination of the amount of
evenue recognized may be determined by the application of complex accounting principles, and (4)
significant accounting estimates may be involve in the determination of the financial statement
presentation of receivables and revenue.
11–3 Good internal control in the billing process requires that someone other than the employee preparing
the invoice shall review the accuracy of prices, credit terms, and other data on the invoice before this
document is released.
11–4 The objective of the billing process is to notify the customer of the amount due for goods or services
delivered. A most important document created by the billing department is the sales invoice. The
original is sent to the customer, and copies are used to record accounts receivable and sales.
11–5 The statement is inco
ect. Credit memoranda are used to credit (reduce) accounts receivable when
goods sold on credit are being returned, or when a defect in the goods justifies a price reduction.
Credit memoranda are not issued to remove uncollectible accounts receivable from the records. Such
write-off of worthless receivables is handled by a general journal entry debiting the Allowance for
Doubtful Accounts and crediting Accounts Receivable.
11–6 The sales invoices (and the shipping documents as well) should be serially numbered. When each
day's invoices are transmitted from the billing department to the accounts receivable department, they
should be accompanied by a transmittal list showing the serial numbers of all sales invoices. Every
number in the series should be accounted for. If a computer is used to record sales invoices item
counts and control totals should be used to ensure that all sales are recorded.
Chapter 11 - Accounts Receivable, Notes Receivable, and Revenue
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© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any
manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
11–7 The statement is co
ect in suggesting that voided shipping documents should be cancelled.
However, they should be retained, and not discarded so as to assure that the numerical sequence may
e accounted for.
11–8 All sales invoices should be serially numbered. Each day the billing department should send copies
of the invoices prepared that day to the accounts receivable department accompanied by a transmittal
letter specifying the invoice numbers used and the total dollar amount billed. By comparing the
individual invoices with the list of serial numbers and comparing the total debits to accounts
eceivable with the total figure for billings, the accounts receivable department can be sure that it has
eceived and recorded all sales invoices.
11–9 Other specific procedures which contribute to good internal control over the business processes
elated to accounts receivable include (only three required):
(1) The separation of the duties of the accounts receivable accountant from all cash handling
functions.
(2) Regular balancing of the subsidiary ledger of receivables with the general ledger control
account by an employee other than the accounts receivable accountant.
(3) Regular aging of accounts receivable and review by management.
(4) Periodic review of delinquent accounts by an appropriate executive.
(5) Periodic confirmation of accounts receivable by internal auditors.
(6) Serial numbering of shipping documents, sales invoices, and credit memoranda, and regular
accounting for all numbers in the series.
11–10 The auditors should confirm with the bank the loss contingency for notes receivable discounted. The
auditors also should send separate confirmation requests to the makers of the notes receivable that
were discounted to determine the genuineness and validity of the notes.
11–11 The write-off of small notes receivable from officers, directors, stockholders, or affiliated companies
is obviously i
egular and unacceptable practice. Such notes are almost always collectible by virtue
of the positions held by the makers. The auditors should investigate these related party transactions
fully; they will probably find that the charges to the allowance for uncollectible notes were made in
e
or and were not authorized by management. If the amounts were large, there would be more
eason to suspect an intention of self-serving activities or fraud on the part of the management.
11–12 Among the audit procedures commonly applied to notes receivable but not to accounts receivable are
the following:
(1) Verification of interest earned and accrued interest receivable.
(2) Examination of the note.
11–13 The client company should request (on its letterhead) the customer to confirm the account receivable.
The auditors have no authority to make such a request directly on their stationery. The return
envelope should be addressed to the auditors' office to assure that the auditors have control over
confirmation returns.
Chapter 11 - Accounts Receivable, Notes Receivable, and Revenue
11-3
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any
manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
11–14 The audit objective of determining the existence of receivables is most directly addressed by the audit
procedure of confirming accounts receivable and notes receivable by direct communication with
debtors. In addition, written confirmation also addresses the completeness and valuation assertions,
ut less effectively because it deals only with recorded accounts and provides limited information on
whether the receivable is collectible. The procedure also provides evidence of occu
ence and
accuracy of revenue transactions.
11–15 If the auditors find post office box addresses for many individual customers whose accounts were
selected for confirmation, the auditors should consider the possibility that the customers may be
fictitious, and that dishonest employees of the client company plan to "answer" the confirmation
equests.
11–16 Alternative auditing procedures to verify accounts receivable when confirmation is not practicable or
possible include examination of customers' purchase orders or contracts; examination of client's
duplicate shipping documents and invoices; and review of payments received from customers
subsequent to the balance sheet date.
11–17 Alternate auditing procedures that may be used when customers have not replied to confirmation
equests include:
(1) Send additional requests by registered or certified mail, with return receipt requested.
(2) The auditors might telephone to ascertain the balance or the reason for failure to respond to
the written request.
(3) Under some circumstances, requests may be made by fax machine.
(4) The auditors may examine any payments to the account made subsequent to the balance sheet
date. The auditors may also examine the duplicate invoices, shipping records, purchase
orders, and so on, for transactions making up the unpaid balance.
11–18 To test the client's sales cutoff at June 30, the auditors should compare shipping records with entries
in the sales journal, and receiving records with entries recording sales returns, for several days prior
to and subsequent to June 30. The auditors will be alert for sales and sales returns recorded in the
wrong accounting period.
11–19 An unusually large number of sales transactions just prior to the balance sheet date should be fully
investigated by the auditors. This situation may result from a strenuous effort made during the
closing days of the period to get out shipments and meet a sales quota. On the other hand, it may
eflect an improper cutoff of sales transactions at year-end, or even the recording of fictitious sales.
In any event, the auditors' investigation should include matching of sales invoices with shipping
documents and customers' orders, and discussions with executives. Careful analysis of sales returns
during the succeeding period may also shed light on the situation.
11–20 Excessive sales returns or allowances may indicate shipments made without customers' orders,
shipments of defective merchandise, a misstatement of inventory or of sales and receivables, or
weaknesses in internal control. One purpose of a review of sales returns and allowances subsequent
to the balance sheet date is to uncover any facts that necessitate adjustment of inventories,
eceivables, or sales in the statements being audited. Another purpose is to test internal control
effectiveness.
Chapter 11 - Accounts Receivable, Notes Receivable, and Revenue
11-4
© 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any
manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
11–21 The credit memoranda should bear the date and serial number of the receiving report on the return
shipment. The credit memoranda selected by the auditors for testing can be compared with records of
the receiving department to determine that goods were actually returned.
11–22 In testing the adequacy of the client company's allowance for doubtful accounts receivable, the
auditors review the following: