a) Ascertaining the accounting policies adopted by the entity for valuing stocks;
b) As the guiding standard on stocks is IAS 2 inventories, the auditor has to consider the suitability of the policies selected by the organization. You must note that under IAS 2:
- The lower of cost and net realisable value is obligatory. FIFO or weighted average cost is used to allocate costs.
- The cost should where appropriate include a proportion of production overheads whether or not they vary on a time basis. The proportion included must be based upon the normal level of activity.
- Where identical items are purchased or made at different times and therefore have differing costs the method of arriving at cost should be FIFO, weighted average
c) The auditor should test check the stock sheets or the continuous stock records with relevant documents such as invoices and costing records to determine if cost has been correctly arrived at.
d) The auditor must examine and test the treatment of overheads.
e) The auditor must test the treatment and examine the available evidence for items valued at net realisable value.
f) The auditor must check the arithmetical accuracy of the calculations made.
g) The auditor must check and confirm the consistency with which the amounts have been computed.
h) The auditor must consider the adequacy of the description used in the accounts and the disclosure of the accounting policies adopted.
Detail work on stocks is imperative in an audit, however there are other review tests that are equally important and these include:
a) Quantity reconciliation of changes in stocks at successive period ends with records of movements i.e. receipts and issues.
b) Comparison of quantities of every kind of stock held at one year end with those held at a previous year end and the related receipts and issues.
c) The gross profit ratio is compared to that of the previous year, other companies and budget.
d) Review of rate of stock turnover with previous year.
e) Comparison of stock figures and budgets for stocks, sales and purchases.
f) Consideration of standard costing records, the treatment of variances in the valuation of stocks and work in progress.