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Unformatted text preview: 1 Chapter 16 Completing the Tests in the Sales and Collection Cycle: Accounts Receivable Review Questions 16-1 Tests of details of balances are designed to determine the reasonableness of the balances in sales, accounts receivable, and other account balances that are affected by the sales and collection cycle. Such tests include confirmation of accounts receivable, and examining documents supporting the balance in these accounts. Tests of controls and substantive tests of transactions for the sales and collection cycle are intended to determine the effectiveness of internal controls and to test the substance of the transactions that are produced by this cycle. Such tests consist of activities such as examining sales invoices in support of entries in the sales journal, reconciling cash receipts, or reviewing the approval of credit. The results of the tests of controls and substantive tests of transactions affect the procedures, sample size, timing and items selected for the tests of details of balances (i.e., effective internal controls will result in reduced testing when compared to the tests of details required in the case of inadequate internal controls). 16-2 The negative form requests the recipient to respond only if he or she disagrees with the information stated on the request. Negative confirmation requests may be used to reduce audit risk to an acceptable level when: 1. The auditor has assessed the risk of material misstatement as low and has obtained sufficient appropriate evidence regarding the design and operating effectiveness of controls relevant to the assertion being tested by the confirmation procedure. 2. The population of items subject to negative confirmation procedures is made up of a large number of small, homogenous, account balances, transactions, or other items. 3. The auditor expects a low exception rate. 4. The auditor reasonably believes that recipients of negative confirmation requests will give the requests adequate consideration. For example, in the examination of demand deposit accounts in a financial institution, it may be appropriate for an auditor to include negative confirmation requests with the customers regular statements when the combined assessed level of inherent and control risk is low and the auditor has no reason to believe that the recipients will not consider the requests. 16-1 16-2 (continued) The preceding requirement that negative confirmations are considered appropriate where the internal controls of the sales and collection cycle are effective is violated by Cynthia Roberts' approach. Not only is her approach questionable from the standpoint that nonresponses have not necessarily proved the existence of the receivable, but her confirmation at an interim date requires her to assume an assessed control risk less than maximum, but she has not tested the related internal controls to justify this assumption....
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- Fall '10