Auditing Revenue: Risks and Procedures

Revenue is usually the largest number in the income statement and the one most often misstated on purpose. The auditing standards presume a risk of fraud in revenue recognition on every audit: AU-C 240 for private companies, ISA 240 and CAS 240, and AS 2401 for public companies. If the auditor concludes the presumption does not apply, the reason has to be documented.

Where revenue goes wrong

Assertion	What can go wrong
Occurrence	Fake sales, bill-and-hold without a real sale, side agreements that undo a sale
Cut-off	Next year's sales recorded this year, or the reverse
Accuracy and valuation	Wrong prices, missing discounts or rebates, overstated variable consideration
Completeness	Sales left out, usually to smooth results or reduce tax
Presentation	Gross instead of net reporting when the entity is an agent

For most companies, overstatement through occurrence and cut-off is the main risk. See our guide to audit assertions.

The procedures

Analytical procedures. Compare revenue by month, product and customer with last year and with budget. Look at gross margin by month, and at sales and credit notes around year end. A spike in the last month is worth following up.

Vouching for occurrence. Select recorded sales and agree each one to the customer order, shipping document or proof of delivery, and invoice. Check the customer is real and the amount was collected. See vouching vs tracing.

Tracing for completeness. Select shipping documents or contracts and trace them forward into recorded revenue.

Cut-off testing. Take sales recorded in the last days of the year and the first days of the next, and check the shipping or delivery date put each one in the right period. Look at credit notes and returns after year end, which can reverse sales booked to hit targets.

Confirmations. Confirm receivable balances, or specific invoices, with customers. Ask about terms, such as rights of return or consignment arrangements, where there is a risk of side agreements. See audit confirmations.

Contract review. For contracts with several performance obligations, variable consideration or revenue over time, check that revenue follows the five steps of ASC 606 or IFRS 15: identify the contract, identify the performance obligations, set the transaction price, allocate it, and recognize revenue when or as each obligation is met.

Journal entries. Test manual entries to revenue, especially entries late in the period, entries posted by senior staff, and entries that credit revenue against something other than receivables or cash. See management override of controls.

Where Warp Accounting fits

Warp Accounting runs the transaction-level work: vouching sampled sales to the invoices and other supporting documents the firm uploads, checking amounts and dates for cut-off, and journal entry testing on revenue. Every result links to the page in the source document. See test of details and journal entry testing.