AC2104

Seminar Group 1
Seminar 9 Presentation 6

Group 6
Christopher See, Joanne Ong, Rachel Chee, Tan Si Ying, Nai Yan An
Part A:
(a) Evaluate the strengths and
weaknesses of Festival’s control
environment.

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 (a) Evaluate the strengths and weaknesses of Festival’s
control environment.

01 Control Environment

Entity’s Risk
02
Assessment Process
SSA 240 Para A59
Components of Internal Control 03 Information System

04 Control Activities

05 Monitoring of Controls

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 (a) Evaluate the strengths and weaknesses of Festival’s
control environment.

1. Communication & Enforcement of Integrity & Ethical Values

Essential elements that influence the effectiveness of the design,
administration and monitoring of controls

Strengths Weaknesses
Head office management has Little monitoring of compliance
high integrity by employees
Festival has an ethical code of
conduct

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 (a) Evaluate the strengths and weaknesses of Festival’s
control environment.

2. Commitment to Competence
Management’s consideration of the competence levels of all individuals
in performing their jobs

Strengths
Festival has a policy of hiring very competent people
• Employees have the necessary skills and knowledge to perform
their jobs

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 (a) Evaluate the strengths and weaknesses of Festival’s
control environment.

3. Participation by Those Charged with Governance

Significantly influences entity’s attitude to internal control
(e.g. independence from management, their experience)

Weaknesses
BOD and AC are not very active
• Extent to which difficult questions are raised and pursued with
management is small

• AC may not understand the entity’s business transactions well, may

not be in a good position to evaluate whether the financial report
gives a true and fair view
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 (a) Evaluate the strengths and weaknesses of Festival’s
control environment.

4. Management’s Philosophy & Operating Style

Management’s attitude toward control (e.g. if management emphasises
importance -> personnel more likely to follow)

Strengths Weaknesses
Management is relatively Usman knew controls over
conservative in terms of inventory are weak
accounting principles and • Did not take any actions
practices towards strengthening
controls, yet continuously
reduced control activities over
inventory to cut cost
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 (a) Evaluate the strengths and weaknesses of Festival’s
control environment.
5. Organisational Structure 6. Assignment of Authority & Responsibilities
The overall framework for planning, Delegation of authority and responsibility, and
directing and controlling operations to how personnel should understand that they are
achieve the entity’s objectives accountable for them

Weaknesses
Divisions operate autonomously
• Decision-making process may be slow as it is hard for management to
coordinate all divisions, since they are not accountable to each other
Head office intervention only when planned results were not obtained
• Head office may not understand the entity’s operations well, correction
process when results are not obtained may be inefficient
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 (a) Evaluate the strengths and weaknesses of Festival’s
control environment.

7. Human Resources Policies & Practices

Covers recruitment, orientation, training, evaluation, counselling,
promotion, compensation, and remedial actions

Strengths & Weaknesses

Employee compensation packages depend largely on performance
• Motivate and recognise employees that work hard
• May result in an incentive for employees to “cook the books”

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Part A:
(b) What factors have led to and
facilitated Usman’s manipulation
of inventory?

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(b) What factors have led to and facilitated Usman’s
manipulation of inventory?

SSA 240 para 11(a)

Fraud - an intentional act by one or more individuals among
management, those charged with governance, employees,
or third parties, involving the use of deception to obtain an
unjust or illegal advantage

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(b) What factors have led to and facilitated Usman’s
manipulation of inventory?

Fraud Risk Triangle

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 (b) What factors have led to and facilitated Usman’s
manipulation of inventory?

Pressure/Incentive Opportunity Rationalisation

Pressure and incentive to maintain profitability

● Being the general manager for the past four years, Usman has been able
to improve the profitability of the division every year
● Compensation is largely based on the division’s profitability

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 (b) What factors have led to and facilitated Usman’s
manipulation of inventory?

Pressure/Incentive Opportunity Rationalisation

Pressure and incentive to maintain profitability

● One way to make the division more profitable is to manipulate inventory,
as it represents a large amount of the division’s statement of financial
position
○ Overstate inventory → lower COGS → higher net income

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 (b) What factors have led to and facilitated Usman’s
manipulation of inventory?

Pressure/Incentive Opportunity Rationalisation

Increase in competition
● New competitor offering substantial price reductions
○ Usman responded by matching price cuts and trying to maintain
Festival’s market share
● No other areas where costs can be reduced so that the division’s growth
and profitability can be maintained

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 (b) What factors have led to and facilitated Usman’s
manipulation of inventory?

Pressure/Incentive Opportunity Rationalisation

Weak internal controls → Usman may have believed that he could get away
with it without anyone noticing
● Improvement in profitability has come through aggressive cost cutting,
including a substantial reduction in control activities over inventory
● Divisions operate autonomously, with head office intervention occurring
only when planned results are not obtained
● Board of Directors & Audit committee are inactive

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 (b) What factors have led to and facilitated Usman’s
manipulation of inventory?

Pressure/Incentive Opportunity Rationalisation

Usman tries to justify the fraud

● Usman views inventory manipulation as a short-run solution to the profit
decline due to the competitor’s price cutting
● He was certain that once the competitor stops cutting prices, the
misstatements in inventory can be easily corrected

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Part B:
(i) Internal control may need to
be applied selectively in a small
organization. What components
of the COSO’s internal control
framework do you think should
be used at the Sunshine Center?

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(i) What components of the COSO’s internal control framework
do you think should be used at the Sunshine Center?

COSO’s Internal Control Framework

◉ Control environment
◉ Risk assessment
◉ Control activities
◉ Information and communication
◉ Monitoring

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(i) What components of the COSO’s internal control framework
do you think should be used at the Sunshine Center?

Control Environment- VERY IMPORTANT

● Tone at the top, set ethical values, boundaries,
guidelines
● SSA 315 A77‐78; Appendix 1
Includes the governance and management functions
and the attitudes, awareness, and actions of those
charged with governance and management concerning
the entity’s internal control and its importance in the
entity

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(i) What components of the COSO’s internal control framework
do you think should be used at the Sunshine Center?

Control Environment - VERY IMPORTANT

● Sunshine Center - small organisation

● Large exposure to management, very direct influence
hence strong impact on staff
● Hence, a strong message together with clear guidelines
from management used effectively can potentially
reduce need for other types of controls

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(i) What components of the COSO’s internal control framework
do you think should be used at the Sunshine Center?

Risk Assessment - Not as Important

● Management to identify all risks including likelihood as
well as significance of the risks
● Relatively small and simple business with direct
oversight committee
● Competent oversight will most likely be sufficient to
avoid any significant risks
● Not to say it is totally unimportant, just do not need to
focus on as much
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 (i) What components of the COSO’s internal control framework
do you think should be used at the Sunshine Center?

Control Activities - Important

● Systems or checks in place to prevent, detect or correct
● Some activities include: Performance reviews, information
processing, physical controls, segregation of duties
● Important due to its nature to prevent fraud
● Must be used with discretion as small business may not
have the required resources carry out too much control
activities
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(i) What components of the COSO’s internal control framework
do you think should be used at the Sunshine Center?

Information and Communication - Not as Important

● Ability for the accounting system to report to
management in a timely fashion and in a way that
allows for management to act on
● Smaller organisations such as Sunshine Center may not
have the resources to invest in such systems
● Consider using more basic way of information and
communication can be used
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(i) What components of the COSO’s internal control framework
do you think should be used at the Sunshine Center?

Monitoring - Not as Important

● Ensure that system of internal controls is periodically and
continuously evaluated ensuring it operates as designed
and is effective
● Sunshine is a small centre and a non-profit one
● Lack of resources to get a professional help in monitoring
● Integrate monitoring into daily operations (e.g. daily
checking) to reduce costs and yet still have some control

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Part B:
(ii) One factor of the control
environment is “integrity and
ethical values.” In what ways
were integrity and ethical values
slighted by the various parties in
Sunshine Center?

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(ii) One factor of the control environment is “integrity
and ethical values.”

SSA 315 A78 para (a)

Communication and enforcement of integrity and ethical
values – These are essential elements that influence the
effectiveness of the design, administration and monitoring of
controls

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 (ii) In what ways were integrity and ethical values
slighted by the various parties in Sunshine Center?

Church Sunshine Centre Reverend Barb

Administrative Committee Andrew
Board
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 (ii) In what ways were integrity and ethical values
slighted by the various parties in Sunshine Center?

Church Administrative Board

Facts Improper Integrity & Ethical Behaviors
Even though Rev. Andrew has no data to ● Did not objectively make decisions
support his claims in stating that the Centre based on facts
would be financially self-supporting, the
board was swayed by his position (Pastor)

Reluctantly agreed to integrate Centre into ● Wants centre’s activities to be kept

Church completely separate from the church
● Do not want to be responsible for any
oversight or liability

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 (ii) In what ways were integrity and ethical values
slighted by the various parties in Sunshine Center?

Church Administrative Board

Facts Improper Integrity & Ethical Behaviors

Formed a committee to monitor the ● Carelessly formed the committee with
Centre’s activities. The members had no lack of expertise
prior child care management experience ● Failure in commitment to competence
● Lack of relevant experience. Even the
director, Barb, is not qualified to run
the childcare operations

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 (ii) In what ways were integrity and ethical values
slighted by the various parties in Sunshine Center?

Sunshine Centre Committee (Old)

Facts Improper Integrity & Ethical Behaviors

Recognized the need for budget and ● Gave in to pressure from someone
financial information but was influenced by who have a higher authority position
the Pastor ● Was skeptical but did not have the
integrity values to pursue the matter

As they were busy with their own careers ● Failed to exercise oversight
and families, they accepted explanations at (Fundamental responsibility)
face value ● Lack of competence and
professionalism
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 (ii) In what ways were integrity and ethical values
slighted by the various parties in Sunshine Center?

Sunshine Centre Committee (Old)

Facts Improper Integrity & Ethical Behaviors

Resigned without investigating the matter ● Improper moral values, they ran away
further & did not ensure everything was fine from the problem
before leaving ● Failed to alert anyone of the problem.

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 (ii) In what ways were integrity and ethical values
slighted by the various parties in Sunshine Center?
Rev. Andrew

Facts Improper Integrity & Ethical Behaviors

Strongly asserted that the child care facility ● Lack of objectivity in ethics. Purely
would be financially self-supporting, even based on his subjective thoughts
though he had no data to support his claim

There was also no enforcement of values in ● Poor management’s philosophy and

running the child care business. Financial operating style
information was not required ● Trust was the only element in the
conduct of operations

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 (ii) In what ways were integrity and ethical values
slighted by the various parties in Sunshine Center?
Rev. Andrew
Facts Improper Integrity & Ethical Behaviors
There was no communication of entity ● Disregard control policies and present
policies. He disregarded segregation of fraud opportunities to Barb who have
duties and gave complete control to Barb to complete control over collections and
operate the business payments.
● As an ex-officio member, he failed in
his duty of care to reduce potential
fraud

Neglected the need for financial ● Insisted that it was a ministry and not a
responsibility business.
● Failed to ensure centre does not face
growing concern issues 34
 (ii) In what ways were integrity and ethical values
slighted by the various parties in Sunshine Center?
Barb
Facts Improper Integrity & Ethical Behaviors
Promised to provide bank records and ● Lack of integrity, clear intention to lie
checks even though she had no intentions by stating that evidence is destroyed
to do so (However last 12 weeks of records are
still available)

Barb’s salary was slightly over minimum ● Probable that since she was
wage with no fringe benefits, days were underpaid, she took more than her
long as well. She also did not record her written salary and did not record to
salary prevent questioning
● Dishonesty, cheating the board

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 (ii) In what ways were integrity and ethical values
slighted by the various parties in Sunshine Center?
Barb
Facts Improper Integrity & Ethical Behaviors

She collected all the cash receipts but did ● Lack of responsibility in handling cash
not cash them all in. Some were in drawer. for failing to keep them in a safe
Also, cash collected did not match number environment
of children who were in Centre. ● Failed to record receipt of cash
payment in Centre’s receipt book.
● Possibility of misappropriation since
Centre running into cash flow issues

The $100 found in drawer was said to be ● Lied to the committee and tried to
left accidentally but the truth was it was covered up
meant to pay for the overdue grocery bill
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 (ii) In what ways were integrity and ethical values
slighted by the various parties in Sunshine Center?
Barb
Facts Improper Integrity & Ethical Behaviors
Went to start another child care centre and ● Poaching of existing customers from
took the business away from Sunshine Sunshine Centre
Centre. Furthermore, damaged the Church’s ● Unethical behavior as she disregarded
reputation by stating that they were their legitimate interests
unsupportive

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Part B:
(iii) What are the weaknesses in
the Center’s control activities?
Make recommendations for
changing the accounting and
reporting system.

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 (iii) What are the weaknesses in the Center’s control
activities? Make recommendations for changing the
accounting and reporting system.

Weakness Recommendations

No financial report or budget ● [Preventive] Create

operating and
cash budgets and file them
“Barb indicated that the Center had no financial appropriately
report or budget”
● [Preventive] Budget
should be
approved by Committee
● [Corrective] Periodic
revision of
budget and adjust where
necessary
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 (iii) What are the weaknesses in the Center’s control
activities? Make recommendations for changing the
accounting and reporting system.

Weakness Recommendations

No clear policies for authorization and ● [Preventive] Approval required for

approval of purchase and payment larger payments
process ● [Preventive] Approval
should be based
on the planned budget
“Barb confessed that the Sunshine Center had a
past due Food Market grocery bill that she was ● [Detective] Random
checks on
paying with cash from daily receipts” significant payments

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 (iii) What are the weaknesses in the Center’s control
activities? Make recommendations for changing the
accounting and reporting system.

Weakness Recommendations

No segregation of duties ● [Preventive] Segregation of duties

“Barb was involved in every facet of operations…

○ Collection of cash
Barb collected fees paid by parents, purchased ○ Payment of supplies and bills
supplies and food using charge accounts, paid all
the Center’s bills and kept all the records” ○ Bank Reconciliation

“Checks and bank records were at her home”

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 (iii) What are the weaknesses in the Center’s control
activities? Make recommendations for changing the
accounting and reporting system.
Weakness Recommendations

No proper accounting system for ● [Detective] Implement accounting

recording transactions records to record details of business
transactions
“Barb had calculated no cash balances… called ● [Detective] All major groups of
bank weekly to find the account balance” transactions should be supported by
either hard copy or electronic
“Check register showed no checks regarding
records.
Barb’s salary”
● [Preventive] Approval by
Committee(Sarah and Olivia)
required for Director’s salary 42
 (iii) What are the weaknesses in the Center’s control
activities? Make recommendations for changing the
accounting and reporting system.

Weakness Recommendations

No restriction on physical control of ● [Preventive] Cash should be locked in

cash and any accounting documents a safe with restricted personnel
access and deposited daily
“Barb reached into a desk drawer and handed ● [Preventive] Encourage cheque
Olivia currency that totaled $100” payment addressed to the Centre
“..she destroyed the bank records, unaware that ● [Preventive] Accounting and source
such information should be kept” documents should be filed and kept
in protected locations (eg fireproof
vaults) 43
 (iii) What are the weaknesses in the Center’s control
activities? Make recommendations for changing the
accounting and reporting system.

Weakness Recommendations

Lack of performance review ● [Preventive] Present budget and

management report periodically
“Barb never presented a financial report” ● [Detective] Committee members can
compare actual performance with
“…limited information that did not allow budget and investigate any
them[Committee] to exercise oversight” unexpected differences
● [Corrective] Periodic revision of
management’s efficiency
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 (iii) What are the weaknesses in the Center’s control
activities? Make recommendations for changing the
accounting and reporting system.

Weakness Recommendations

No internal procedures for recruitment ● [Preventive] Strengthen corporate

of qualified personnel governance
● [Preventive] Implement internal
”hired Barb… even though she had no previous procedures to ensure that all
employment experience as a teacher, child care
personnel have capabilities that
provider or manager”
commensurate with their
“Sunshine Committee included four church members responsibilities
with Rev, Andrew as an ex officio member, none of ○ Role of Director should be taken
whom had child care management experience”
up by someone with prior
managerial experience 45
Any questions?

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