Accounts Receivable refer to the amounts owed to a company by its customers for goods or services that have been delivered but not yet paid for. In this article, we will cover the accounting treatment, audit risks, audit assertions, and audit procedures for auditing accounts receivable.
Accounting Treatment: Accounts receivable are recorded as an asset in the balance sheet and are typically classified as short-term assets. The asset is recognized when the company delivers goods or services to a customer and generates an invoice. When the customer pays the invoice, the asset is reduced, and cash is increased.
The following are the audit risks that auditors should consider when auditing accounts receivable:
- Misstatement of Accounts Receivable Balance: There is a risk of misstatement in the accounts receivable balance due to errors in recording or classifying transactions, incorrect calculation of amounts owed, or fraud.
- Unrecorded Accounts Receivable: There is a risk that some accounts receivable may be unrecorded, which can result in an understatement of the company’s assets and a corresponding overstatement of liabilities.
- Cutoff Misstatement: There is a risk of cutoff misstatement, meaning that some accounts receivable transactions may be recorded in the wrong period, which can impact the accuracy of the financial statements.
- Allowance for Doubtful Accounts: There is a risk that the allowance for doubtful accounts may be inadequate, resulting in an overstatement of the accounts receivable balance.
- Inadequate Internal Controls: There is a risk that internal controls over accounts receivable may be inadequate, which can increase the risk of misstatement and fraud.
The following are the audit assertions that auditors should consider when auditing accounts receivable:
- Existence: The auditor should verify the existence of accounts receivable and the accuracy of the amounts owed.
- Valuation: The auditor should verify that the accounts receivable are accurately valued and recorded at the correct amount.
- Rights and Obligations: The auditor should verify that the company has the right to receive payment for the goods or services it has delivered and that the customers have the obligation to pay the accounts receivable.
- Presentation and Disclosure: The auditor should verify that accounts receivable are presented and disclosed in accordance with accounting standards.
The following are the audit procedures that auditors should perform when auditing accounts receivable:
- Obtain an understanding of the company’s internal controls over accounts receivable.
- Perform substantive testing, such as examining invoices, sales orders, and receipts, to verify the existence and accuracy of accounts receivable.
- Perform analytical procedures, such as comparing accounts receivable balances to prior periods, to identify unusual transactions or trends.
- Verify the accuracy of accounts receivable cutoff by performing tests of transactions that occurred near the end of the period.
- Confirm accounts receivable with customers to verify the accuracy of the amounts owed.
- Review the allowance for doubtful accounts and perform procedures to test its adequacy.
Testing Net Book Value (NBV)
Valuation of assets, including net book value, is a crucial aspect of an audit, as it impacts the financial statements. The following are the steps involved in the audit procedure for the valuation of assets, particularly net book value:
- Understanding the client’s accounting policies: The auditor should understand the client’s accounting policies, including how they determine the net book value of assets.
- Review of the valuation process: The auditor should review the process used by the client to determine the net book value of assets, including the calculations and supporting documentation.
- Assessment of accuracy: The auditor should assess the accuracy of the net book value by comparing it to market values or other independent appraisals, if available.
- Testing of calculations: The auditor should perform tests of the calculations used to determine the net book value, including reviewing the supporting documentation and comparing the results to the prior period’s values.
- Consideration of impairment: The auditor should consider the potential for impairment of assets and evaluate whether the net book value is a fair reflection of the asset’s value.
- Documentation: The auditor should document the steps taken, observations, and conclusions reached during the audit procedure for the valuation of assets.
- Final opinion: The auditor should provide a final opinion on the fairness of the net book value presented in the financial statements.
Auditing accounts receivable is a critical component of the financial statement audit. Auditors should consider the accounting treatment, audit risks, audit assertions, and audit procedures when auditing accounts receivable to ensure the accuracy and reliability of the financial statements.