Execution - Audit of Inventory and Distribution Cycle

Question 1

Provide the phases of the inventory and distribution cycle

Answer 1

Phase 1 - Inventory - received (see purchase/ payable)
Phase 2 - Inventory is moved and or manufactured
Phase 3 - Inventory is held
Phase 4a - Inventory is sent to the customer (see revenue and receivable)
Phase 4b - Cost of inventory sold is moved into COGS
Phase 5 - Inventory is valued

• Retail organizations would have an inventory of goods for resale, manufacturing companies would have the raw material, WIP, finished goods inventory

Question 2

What is the risk of inventory and COGS

Answer 2

• Inventory risk is an overstatement—an incentive to show strong balance. For large assets in B/S, impairment is a key risk.
• COHS relates to understatement. TO show greater profit
• Sheet to floor test

Question 3

Provide the assertions for inventory and COGS

Answer 3

Assertion - Inventory
Existence - The inventory recorded does not exist
Right and Obligation - The entity does not have any legal right to inventory or is it not controlled
Completeness - Inventory owned by the entity is not recorded
Accuracy, valuation, allocation - Inventory is not measured at the correct amount
Classification - Inventory is not classified in appropriate B/S
Presentation - Appropriate disclosure for inventory has not been made

Assertions - COGS
Occurrence - COGS recorded did not occur
Completeness - COGS incurred by the entity is not recorded
Cut off - COGS is recorded at the wrong period
Accuracy - COGS is not recorded at the correct amount
Classification - COGS is not classified in the appropriate I/S account
Presentation - Appropriate disclosure for COGS has not been made.

Question 4

Provide the general audit procedure examples

Answer 4

1. Agree the year-end balance in the GL to the underlying detail inventory listing (inventory - existence, completeness, accuracy, valuation)
2. Obtain a complete set of final inventory count sheets, agree on the total on the final inventory count sheet to detail inventory listing, and investigate differences (inventory - existence)
3. Floor-to-sheet count - Agree test count performed at the inventory count sheet to detail the inventory listing and investigate differences.
4. Sheet-to-floor count - Agree on a sample of quantities of inventory on a detailed inventory listing to test count performed at inventory count per count.
5. Review the aging report of inventory and identify inventory that has been on hand for more than six months.