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what's up audit fans welcome to amanda loves to audit and the launch of my new series on accounting transaction cycles from an audit perspective so what are we going to look at in this series well for a range of different transaction cycles like sales and cash receipts purchasing and accounts payable payroll property plan equipment long term liabilities we're going to analyze what a traditional or typical process looks like in a range of different firms then we're going to look at the sorts of inherent and accounting risks that are going to arise we're going to try and identify common control activities how you test those controls and different sorts of substantive procedures you could use why am i doing this well i've had lots of requests for analyzing transaction processes in depth and helping students develop some examples like my series on auditing standards this is a really big undertaking so this is not something that's going to happen in just a couple of weeks it's going to take quite a long time to get through all the videos but i look forward to making them and sharing them with you so without further ado let's get into it [Music] so my video on sales is going to be broken into two parts the first part is going to be about the process what should we expect to see in a regular sales process in different types of companies then we're going to look at the common inherent risks and accounting potential accounting risks of material misstatement we'll also identify the control activities in today's video however in part two of this video we're going to look at the types of tests of internal controls that we can do over the control activities that we identify and also the type of substantive tests now why have i broken it into two videos well it'd just be too long for one specific video so make sure you've got yourself a snack a cup of tea and i'm going to start drawing on my tablet right now so let's try and understand that process related to sales and we need to find out you know what exactly is happening so there are so the sorts of things that you're going to want to ask or you're going to want to find out are about what sort of product does the entity sell is it something big is it something small is it a good so i guess there's some issues there we want to find out if it's a good or if it's a service we need to find out if it's a what i call a one stage item which means you buy it you take it away straight then and there or is it multi-staged so that might mean that you buy something that has a number of different components maybe it needs delivery later so we need to think about what is the product and how do they sell it how is it sold to the customer so once you've figured out the product then you need to think about the payment all right so how do people pay is it a retail operation where it's cash and credit cards so that's likely to be retail or is it more wholesale where people are likely to purchase on credit or on account and that on credit or on account is that accounts receivable process that a lot of wholesalers manufacturers will use because remember there are different processes if we do have credit then there are going to be questions about exactly who receives credit and what is the approval process so do we need to look at bank statements do we give everybody a generic approval process or some sort of generic uh you know everybody gets 50 000 worth of credit straight away and then you also need to think about payment terms so when it comes to payment terms it might be that you have to pay within 30 days within 60 days do you get a discount if you pay early so payment is really important now the next thing we need to consider is also going to be delivery how do customers actually receive their goods is it that they take it with them oops can't spell their take it with them or is there delivery now when you have delivery you need to think about two specific things number one who does the delivery is it the client with their own trucks um or delivery service or do they contract some sort of career company or delivery company now this is all important because if they deliver it themselves then how do we account for those costs if it's a courier company then when it comes time to audit expenses we know we need to look for those doing the audit the next thing that i typically think about when i'm analyzing a sales process is the sales people so who are how are sales made are sales made online are they made with sales people if they're made with sales people then we want to ask questions about how are they paid or remunerated because if they're paid with a salary so they get a fixed amount per year or an hourly wage then we don't need to think about whether their pay affects sales however if they also receive some commissions we know this increases our risk of material misstatement and i'll explain more on that later and then the last one do they receive some sort of bonus again bonuses are going to impact how they might manipulate sales accounts receivable or cash to meet particular bonus targets it increases the risk so when we're thinking about a sales process how is the sale made i forgot to add up here is it a good or a service is it something that perhaps is delivered online as well so we need to think about the product the payment the delivery and the sales people to be able to understand the process because remember retail is going to be different from wholesale so next up let's map out a quick flow diagram or flow chart of what a process might look like i'm going to switch to a slightly smaller pen because we're going to need to fit quite a lot here on the page so imagine we've got a start point okay now here let's talk about sales in a retail environment so let's say sales retail here okay so in a retail situation you have your customer comes in they pick up the item it needs to be purchased so what sort of process what might we see well customer selects item oh i'm not going to run out i'm going to run out of room here so they've selected the item it needs to be barcode scanned all right so scan barcode of the item now when you scan that barcode that's going to bring in a control activity and the barcode acts as a control activity itself so you're going to have some sort of computer price list all right so you're going to scan all your items then the system is going to calculate the total for the sale all right so it's going to add everything up that also acts as an internal control process now here i'm going to add a payment process so payment type and let's say if it's cash then they are received cash and give change all right and that's probably at some point going to update my accounting system right we don't some sort of point of sale system so they're going to have to enter the cash and receive the change now if it's a credit card there'll be a process here to charge the credit card so regardless of which payment method we have there's going to be a process to generate a receipt all right so we have to generate a receipt i'm going to shift this flow chart up a little bit so i can keep writing the receipt's going to come from that accounting system if we charge the credit card that's information is going into the accounting system as well i've got some lines crossing over here it's not exactly the neatest flowchart that's going to give us a little document receipt and that's going to go to the customer okay so in this process let me try and show it all on one page here i'm going to highlight the activities where there is an internal control okay so scanning the barcode that's an internal control we've got the price list acts as an internal control the system automatically calculates the total sales that's a control that we have to generate a receipt and then it updates the accounting that's going to be a control as well now if you think about your supermarket there might also be some process where you have to deactivate an rfid tracker on an item if it's an electronic store or you're selling something quite expensive but this is the sort of process that you might see in some sort of sales environment now also i didn't add up here that prior to when the customer scans the item there might also be a step depending on the business about the sales person scans their id all right that could be in there as an extra control to make sure that you know exactly who is selling or who is using the cash register at that specific time so that's an example for retail let's look at an example for a wholesale environment all right so let's say in a wholesale environment the customer places an order via the website okay so let's say here order via the website okay so they've placed an order into our system let's say this is the point of sale or the web system so pause or a web system then what happens typically is that there will need to be let's not do that as a square let's do a credit limit check so we need to figure out for how much they owe do they still have money to be able to spend on account so if they've exceeded the limit we're going to need to send something denying the order if they have cash to spare so they are within the limit then we can order or process the sale okay so there's going to be need some sort of process there now processing the sale means that now we need to organize something happening in our warehouse i'm going to draw a line here because this is in the warehouse so we're going to process the sale by entering the details here or print the order details so from this system they're going to print the order details and generally they generate something called a pick list or a pack list so that says for these this order here are the five items that need to be collected off the shelves that are going into this transaction so there's going to be a manual process where somebody has to go off and collect the order items all right and then as i collect them hopefully they're marking them off the pick list at the same time so what needs to happen is once they've collected all the items let's write this here items match the pick list all right if no then they need to go back and they need to figure out what am i missing but if they have all the items yes they can probably box everything up attach label to the box so there has to be some sort of label that's generated so that it knows where to go for delivery and then probably in the system the mark the order is ready for delivery all right so in the accounting system somewhere all the delivery or the inventory management system we have to mark that as an order ready for delivery then we have to go out and deliver the item so i'm going to run out of room here so i'm going to do delivery down here so imagine they have their own delivery drivers in-house so the driver is going to deliver the item now typically when you receive a delivery you also need to have a signature so they're going to need to obtain customer signature now that could be oh i've got that as a manual process there let me just make that an online process because it could be signing on a tablet which again is going to update that system to say that the item is delivered now once it's delivered then automatically what should happen is also some journal entries okay so we should automatically have journal entries and that journal entry would be to go debit accounts receivable credit sales and we know that that has to happen there because that's the delivery point so that's the accounting standard rules and then there will be a process later where at the end of the month you say to the customer here is what you owe and here is what is to be collected now i just realized back in our examples for our retail entity we didn't talk about where journal entries would be made so generally we would make the journal entry after we generate the receipt there would also be a process to create the automatic journal there and so that's going to be debit cash or money owed from the credit card credit sales revenue so that's pretty much the process that we expect to see so what we need to do next is think about our accounting issues okay and i mentioned one of those briefly before and the first one is recognition of revenue so remember that the goods cannot be recognized as revenue until they've been delivered to the customer so a lot of businesses will say they can recognize the revenue as soon as they've given the parcel over to australia post for example but technically they don't earn that revenue until the article has been delivered so we know that we have an issue around the recognition of revenue and in terms of assertions that's going to affect our cutoff assertion recognizing revenue in the correct period now if there are sales commissions we know that actually let's take this to from an assertion perspective let's look at our assertions occurrence accuracy accuracy couldn't spell it there for a minute classification completeness oops and cut off okay so these are our assertions relating to the sales account because this is a transaction account we need to think about what are the risks associated with this specific account so we're more worried about overstatement of accounts like sales because people are more likely to overstate revenue so we're worried about occurrence could there be any reason for there to be sales or overstatement of sales and that is most likely related to bonuses or commissions i can't write here today or sales targets so that's going to be a big one accuracy is have we charged our customers the correct amount so this is often going to be related to barcodes and scanning and price lists is there any way that people can override the price if there is a price override who approves it is there a manager classification is going to be our journal entry so that's going to be related to do we have any risk in how the journal entries are processed set up for the specific account so how is the accounting system set up what are the default journal entries are those journal entries correct completeness is we're worried about understatement of sales that's unlikely everywhere unless you're trying to receive a government supplement for low business performance at the moment so when would a company be likely to understate sales so we have to investigate whether there are any issues about the entity or the environment that would encourage understatement and then cut off and cut off is one of those ones that is typically related to delivery we can have mistakes or companies potentially recognizing sales when the order is placed not when the goods are delivered and that's a really common one if you're trying to bring sales into this period alternatively companies might be trying to push sales into the next period if they've already reached their sales targets so we need to look at our accounting process and go to the client interview them find out the process and see if there are any indications that we might have issues related to these assertions so that's the end of our first video in this series i've talked about sales i've talked about the sorts of controls that we might want to see and i've talked about the potential accounting issues what we're going to do in our next video in this series is actually look at the process of how do i test those control activities and then also how do i gather substantive evidence of course if you thought the video was useful i'd love for you to give me a thumbs up please consider subscribing to make sure that you get all the videos in the series and check out all of my other work on auditing and my webpage on amanda loves to audit.com there's lots of resources there to help students and to help you brush up on your audit knowledge thanks for watching and i'll see you next time