AUDIT

INVENTORY
AUDIT OF INVENTORY

• Often the most complex and time-consuming. Why?

⚬ Often the largest account on the balance sheet.
⚬ Often in different locations, making physical control and counting difficult.
⚬ Often difficult for auditors to observe and value (ex: jewel, electronics
parts, chemical)
⚬ Valuation is also tricky when the estimation of inventory obsolescence is
necessary and when manufacturing costs must be allocated to inventory.
⚬ Several acceptable inventory valuation methods
AUDIT OF INVENTORY

• Six functions make up the inventory and warehousing cycle:

⚬ Process purchase orders
⚬ Receive raw materials
⚬ Store raw materials
⚬ Process the goods
⚬ Store finished goods
⚬ Ship finished goods
AUDIT OF INVENTORY
AUDIT OF INVENTORY
AUDIT OF
INVENTORY
AUDIT OF COST ACCOUNTING

• There are two broad categories of controls:

⚬ Physical controls over raw materials, work-in-process, and finished goods
inventory
⚬ Controls over the related costs

• Perpetual inventory master files maintained by persons who do not have custody
of or access to assets are a useful control
AUDIT OF COST ACCOUNTING

• Tests of Cost Accounting: The auditor is concerned with four aspects of cost
accounting:
⚬ Physical controls over inventory
⚬ Documents and records for transferring inventory
⚬ Perpetual inventory master files
⚬ Unit cost records
SUBSTANTIVE ANALYTICAL PROCEDURES
PHYSICAL OBSERVATION

• Inventory Observation Requirements for the Auditor:

⚬ Be present at the time the client counts its inventory.
⚬ Observe the client’s counting procedures.
⚬ Make inquiries of client personnel about their counting procedures.
⚬ Make their own independent tests of the physical count
PHYSICAL OBSERVATION

• Controls Over Physical Count

• Audit Decisions:
⚬ Timing
⚬ Sample Size
⚬ Selection of Items—should be careful to:
￭ Observe the counting of the most significant items.
￭ Inquire about items that are likely obsolete or damaged.
￭ Discuss with management the reasons for excluding any material items.
• Physical Observation Tests:
PRICING AND COMPILATION

• Must verify that the physical counts of inventory are correctly priced and
compiled.
⚬ Inventory price tests include tests of the client’s unit prices to
determine whether they are correct.
• Pricing and Compilation Controls: Standard cost records that indicate
variances in material, labour, and overhead costs are helpful to evaluate
the reasonableness of production records.
PRICING AND COMPILATION

• Valuation of Inventory concerns:

⚬ Must be in accordance with accounting standards.
⚬ Must be consistent from year to year.
⚬ Inventory cost versus market value (replacement cost or net realizable value)
must be considered.
• Pricing Purchased Inventory
• Pricing Manufactured Inventory
• Cost or Market
INTEGRATION
OF THE TESTS