Hospitality Sector Audit Guide: Hotels & Restaurants in Dubai

The hospitality sector in Dubai—encompassing hotels, restaurants, cafes, and catering operations—faces unique audit challenges due to high cash transaction volumes, complex revenue streams, perishable inventory, and specific Dubai Tourism and Commerce Marketing (DTCM) regulatory requirements.

Hotel Audit Specific Considerations

Raw Materials: Purchased inputs awaiting production

Work-In-Progress (WIP): Partially completed goods on production floor

Finished Goods: Completed products ready for sale

Each category requires different audit procedures and valuation methodologies.

Physical Inventory Count Audit

Raw Materials Count:

• Count items in warehouse (easier to count and identify)
• Verify quantities to supplier invoices and packing lists
• Check for obsolete or slow-moving materials
• Assess storage conditions (damaged goods should be written down)

WIP Count: Most challenging inventory category:

• Items in various stages of completion
• Difficult to identify and count accurately
• Requires production manager involvement
• Estimate percentage of completion for valuation

Best Practice: Minimize WIP at year-end by completing production runs before count date.

Finished Goods Count:

• Count completed items in warehouse
• Verify to production completion reports
• Check for damaged or defective units
• Assess obsolescence risk (old models, discontinued products)

Audit Observation: Auditors must attend year-end physical count to observe:

• Count procedures followed
• Items properly identified and tagged
• Count sheets completed accurately
• Count team competent and supervised

Inventory Valuation Audit

Raw Materials Valuation:

• Cost = Purchase price + customs duty + freight to warehouse
• Verify sample items to recent supplier invoices
• Check valuation method consistent (FIFO, weighted average)
• Assess lower of cost vs. net realizable value

WIP Valuation: Most complex valuation:

• Cost = Raw materials consumed + direct labor + manufacturing overhead × % completion
• Verify percentage completion reasonable (inspect production floor)
• Test overhead absorption rate calculation
• Verify labor cost allocation to WIP

Example WIP Calculation:

• Raw materials in WIP: AED 50,000
• Direct labor incurred: AED 20,000
• Overhead absorbed (50% of labor): AED 10,000
• Total WIP value: AED 80,000

Finished Goods Valuation:

• Cost = Total production cost / units produced
• Verify to standard cost cards (if standard costing used)
• Test overhead absorption
• Assess NRV if selling price declining

Cost Accounting Audit

Standard Costing Verification

Many manufacturers use standard costs for inventory valuation:

Standard Cost Components:

1. Standard material cost per unit
2. Standard labor hours × standard labor rate
3. Standard overhead rate × standard labor hours

Audit Procedures:

• Obtain standard cost cards for major products
• Verify reasonableness of standards
• Test variance analysis (actual vs. standard)
• Assess whether standards need updating (if significantly different from actual)

Overhead Absorption Audit

Manufacturing overhead (factory rent, utilities, indirect labor, depreciation) must be absorbed into product cost:

Overhead Rate Calculation: Overhead Rate = Budgeted Overhead / Budgeted Activity (labor hours or machine hours)

Example:

• Budgeted annual overhead: AED 1,200,000
• Budgeted labor hours: 50,000 hours
• Overhead rate: AED 24 per labor hour

Audit Verification:

• Recalculate overhead rate
• Verify budgeted amounts reasonable
• Test overhead applied to production
• Check under/over-absorbed overhead treatment (adjust cost of goods sold)

Common Finding: Overhead under-absorbed due to lower production volume than budgeted; under-absorption not written off to COGS (understates expenses, overstates inventory).

Fixed Asset Audit for Manufacturing

Machinery & Equipment

Manufacturing companies typically have significant investment in production equipment:

Audit Procedures:

Physical Verification: Sample major equipment and verify existence and condition

Additions Testing: For new equipment purchased:

• Verify supplier invoice
• Confirm equipment received and installed
• Verify capitalization appropriate (not repairs/maintenance)
• Check all costs capitalized (equipment + freight + installation + testing)

Depreciation Testing:

• Verify useful life reasonable (typically 5-15 years for manufacturing equipment)
• Test depreciation calculation
• Assess impairment indicators (obsolete equipment, damaged equipment)

Repairs vs. Capital Expenditure

Common audit area: Distinguishing repairs (expense immediately) from capital improvements (capitalize):

Repairs (Expense): Routine maintenance, fixing breakdowns, replacing parts

Capital Expenditure (Capitalize): Equipment upgrades, capacity increases, extending useful life significantly

Audit Review: Sample maintenance expenses and assess whether any should have been capitalized (and vice versa).

Production Cycle Audit

Bill of Materials (BOM) Testing

BOM specifies raw materials required to produce one unit:

Audit Procedure:

• Obtain BOM for sample products
• Trace raw material quantities to production records
• Verify BOM updated for engineering changes
• Test raw material costing in BOM

Purpose: Verify raw materials issued to production match what should be required per BOM (excess usage indicates waste or theft).

Production Reporting

Key Production Documents:

• Production orders (authorization to manufacture)
• Material requisitions (raw materials issued from warehouse)
• Job/batch completion reports (production finished)
• Scrap/waste reports (materials wasted during production)

Audit Procedures:

• Trace sample production orders to completion
• Verify material requisitions match BOM requirements
• Test finished goods produced match production orders
• Assess scrap percentages reasonable (typically 2-5%)

Cost of Goods Sold Verification

For manufacturers, COGS calculation is complex:

COGS Formula: Opening Inventory + Purchases + Production Costs - Closing Inventory = COGS

Production Costs = Raw Materials Consumed + Direct Labor + Manufacturing Overhead

Audit Procedures:

• Verify opening inventory (prior year closing balance)
• Test purchases (sample supplier invoices)
• Verify direct labor from payroll records
• Test overhead absorption calculation
• Recalculate closing inventory
• Verify COGS calculation accurate

Waste and Scrap Accounting

Manufacturing processes generate waste and scrap requiring proper accounting:

Normal Waste: Expected waste (2-5% typical) built into standard costs

Abnormal Waste: Excess waste beyond normal (should be expensed separately, not included in inventory cost)

Scrap Sales: If scrap has value (metal scraps, recyclables):

• Record scrap inventory if material
• Recognize revenue when scrap sold
• Credit production cost or other income

Audit Procedures:

• Review scrap and waste reports
• Assess waste percentages reasonable
• Verify abnormal waste expensed not capitalized
• Test scrap sales recorded

Quality Control & Rejected Goods

Inspection Process: Manufacturers inspect goods during/after production:

• Goods passing inspection → finished goods inventory
• Goods failing inspection → rework or scrap

Audit Considerations:

• Verify rejected goods not included in finished goods inventory
• Assess rework costs reasonable
• Check provision for warranty claims (if products under warranty)

Customs and Import Duty Compliance

Manufacturers importing raw materials face customs requirements:

Audit Verification:

• Customs declarations for imports
• Import duties paid
• Duty amounts capitalized to raw material cost (not expensed)
• Temporary import/re-export procedures followed (if applicable)

Common Issue: Import duties expensed instead of capitalized to inventory cost (understates inventory, overstates expenses).

Labor Cost Audit

Manufacturing labor consists of:

Direct Labor: Workers directly involved in production (machine operators, assembly line workers)

Indirect Labor: Support staff (supervisors, maintenance, quality control)

Audit Procedures:

Direct Labor:

• Verify payroll costs
• Test time sheets and production allocation
• Verify direct labor capitalized to WIP/inventory

Indirect Labor:

• Verify included in manufacturing overhead
• Test allocation to products reasonable

Environmental and Safety Compliance

UAE manufacturers must comply with environmental and safety regulations:

Audit Considerations:

• Industrial license current and valid
• Civil Defense approvals obtained
• Environmental permits (if required)
• Waste disposal procedures compliant
• Safety equipment investments capitalized appropriately

Common Manufacturing Audit Findings

1. WIP Overvalued: Percentage of completion overstated; WIP should be nearly finished but includes early-stage production

2. Overhead Under-Absorption Not Adjusted: Lower production volume causes under-absorbed overhead; not written off to COGS

3. Obsolete Inventory Not Written Down: Old raw materials or discontinued finished goods carried at full cost; should be written down to NRV

4. Scrap Revenue Not Recorded: Scrap metal or recyclables sold but revenue not recorded

5. Repairs Capitalized: Routine repairs incorrectly capitalized as fixed assets

6. Import Duties Expensed: Customs duties expensed instead of added to raw material cost

Preparing for Manufacturing Audit

Production Data: Provide production reports, BOM, standard cost cards, scrap reports

Inventory Records: Maintain perpetual inventory system; provide year-end count sheets

Fixed Asset Register: Complete register with acquisition dates, costs, depreciation rates

Cost Accounting: Document overhead rate calculation, variance analysis, and cost allocation methods

Physical Count: Schedule year-end inventory count during low production period if possible; minimize WIP at count date

Conclusion

Manufacturing audits require deep understanding of production processes, cost accounting, inventory valuation for multiple categories, fixed asset accounting for complex equipment, and manufacturing-specific regulatory compliance. The combination of three inventory categories, overhead allocation, and WIP valuation makes manufacturing audits among the most technically challenging.

As Ministry-approved auditors with extensive experience auditing UAE manufacturing companies across food production, metal fabrication, electronics assembly, and industrial equipment manufacturing, Farahat & Co provides specialized audit services covering inventory management, cost accounting verification, fixed asset validation, and regulatory compliance, ensuring comprehensive audits tailored to manufacturing operations' unique requirements.

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