Southeast Shoe Distributor, Inc.:
Identification of Tests of Controls
for the Revenue Cycle
(Sales and Cash Receipts)
After completing and discussing this assignment you should be able to • Recognize common documents and records used to record transactions in the revenue cycle • Recognize common control activities used to process transactions in the revenue cycle • Identify client control activities that reduce the likelihood of material misstatements • Link client control activities to management assertions • Identify tests of controls for each control activity identified
Southeast Shoe Distributor (SSD) is a closely-owned business that was founded 10 years ago by Stewart Green and Paul Williams. SSD is a distributor that purchases and sells men's, women's, and children's shoes to retail shoe stores located in small to midsize communities. The company's basic strategy is to obtain a broad selection of designer-label and name-brand merchandise at low prices and resell the merchandise to small, one-location, retail stores that have difficulty obtaining reasonable quantities of designer and name-brand merchandise. The company is able to keep the cost of merchandise low by (1) selectively purchasing large blocks of production overruns, overorders, mid- and late-season deliveries, and previous season's stock from manufacturers and other retailers at significant discounts, (2) sourcing in-season name-brand and branded designer merchandise directly from factories in Brazil, Italy, and Spain, and (3) negotiating favorable prices with manufacturers by ordering merchandise during off-peak production periods and taking delivery at one central warehouse. During the year, the company purchased merchandise from more than 50 domestic and international vendors, independent resellers, manufacturers, and other retailers that frequently have excess inventory. Designer and name-brand footwear sold by the company during the year include the following: Amalfi, Clarks, Dexter, Fila, Florsheim, Naturalizer, and Rockport. At the current time, SSD has one warehouse located in Atlanta, Georgia. Last year, SSD had 123 retail shoe store customers and had net sales of $7,311,214. Sales are strongest in the second and fourth calendar-year quarters, with the first calendar-year quarter substantially weaker than the rest.
BACKGROUND INFORMATION ABOUT THE AUDIT
SSD is required to have an audit of its annual financial statements to fulfill requirements of loan agreements with financial institutions. The general ledger accounts SSD has related to sales and cash collection activities are • Sales
• Sales Discounts
• Sales Returns and Allowances
• Uncollectible Account Expense
• Accounts Receivable
• Allowance for Uncollectible Accounts
In accordance with professional standards, Susan Mansfield, audit manager, reviewed SSD's control environment, risk assessment policies, and monitoring system and has assessed them as strong. Bill Zander, staff auditor, reviewed SSD's information system and control activities related to sales and cash receipts and prepared the enclosed flowcharts (referenced in the top right-hand corner as R 30-1, R 30-2, R 30-3, and R 30-4). The number and size of sales returns and allowances and write-offs of specific customer accounts is relatively small. Thus Susan has decided there is no need to document the company's policies nor perform tests of controls for these two business activities. As the audit senior, you have been assigned responsibility for (1) identifying internal control activities that assure that sales and cash receipt transactions are not materially misstated and (2) identifying tests of controls that would test the design and operating effectiveness of internal control activities identified.
Complete steps 5 through 7 in the Revenue Cycle Planning Audit Program—Identification of...
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