Please see Appendix 9B for supplementary information.

54 Inventory Count Observation: Planning and Substantive Procedures. Sammy Smith is the partner in charge of the audit of Blue Distributing Corporation, a wholesaler that owns one warehouse containing 80 percent of its inventory. Smith is reviewing the audit documentation that was prepared to support the firm's opinion on Blue's financial statements and wants to be certain that essential audit procedures are well documented. Required: What evidence should Smith expect to find indicating that the observation of the client's physical count of inventory wus well planned and that assistants were properly supervised? What substantive procedures should Smith find in the audit documentation of management's balance assertions about procedures,) APPENDIX EXHIRIT 981 1. Obtain client's inventory list, recalculate, and check it against the general ledger. 2. Trace test counts from inventory observation to the final inventory compilation. 3. Select a sample of inventory items. a. Vouch unit prices to vendors' invoices or other cost records. b. Recalculate the inventory valuation for sampled items. 4. Scan the inventory compilation for items added from sources other than the physical count and items that appear to be large round numbers or systematic fictitious additions. 5. Recalculate the extensions and footings of the final inventory compilation for mathematical accuracy. Reconcile the total to the adjusted trial balance. 6. For selected inventory items and catcgories, determine the replacement cost and the applicability of lower-f costor-NRV valuation. 7. Inspect inventory for evidence of obsolete or damaged goods. Trace identified obsolete or damaged goods to inventory records for writedown. 8. Inquire about obsolete, damaged, slow-moving, and overstocked inventory. 9. Scan the perpetual records for slow-moving items. 10. During the physical observation, be alert to notice damaged or scrap inventory. 11. Compare the list of obsolete, slow-moving. damaged, or unsalable inventory from last-year's audit to the current inventory compilation. 12. At yearend, identify the numbers of the last shipping and receiving documents for the year. Compare these to the sales, inventory/cost of sales, and accounts payable entries for proper cutoff. 13. Read bank confirmations, debt agreements, and minutes of the board and make inquiries about pledge or assignment of inventory to secure debt. 8. Inquire about obsolete, damaged, slow-moving, and overstocked inventory. 9. Scan the perpetual records for slow-moving items. 10. During the physical observation, be alert to notice damaged or scrap inventory. 11. Compare the list of obsolete, slow-moving, damaged, or unsalable inventory from last-year's audit to the current inventory compilation. 12. At year-end, identify the numbers of the last shipping and receiving documents for the year. Compare these to the sales, inventory/cost of sales, and accounts payable entries for proper cutoff. 13. Read bank confirmations, debt agreements, and minutes of the board and make inquiries about pledge or assignment of inventory to secure debt. 14. Inquire about inventory held by third parties on consignment and inventory on hand on consignment from vendors, 15. Confirm or inspect inventories held in public warehouses. 16. Recalculate the amount of intercompany profit to be eliminated in consolidation. 17. Obtain management representations concerning pledging of inventory as collateral, intercompany sales, and other related-party transactions. Cost of Sales 1. Seleet a sample of recorded cost of sales entries and vouch to supporting documentation. 2. Select a sample of basic transaction documents (such as sales invoices, production reports) and determine whether the related cost of goods sold was figured and recorded properly. 3. Review the accounting costing method used by the client (such as FHFO, LIFO, standard cost) for proper application. 4. Compute the gross margin rate and compare to prior years. 5. Compute the ratio of cost elements (such as labor, material) to total cost of goods sold and compare this ratio to that for prior years