Audit & Assurance

Lê Thị Vân Dung, PhD, COSO IC

[email protected]

© ACCA INTERNAL
SYLLABUS

A Audit framework and regulation

B Planning and risk assessment

C Internal control

D Audit evidence

E Review and reporting

 • The sales system
Chapter 10
• The purchases system
Tests of controls • The inventory system
• The bank and cash system
• The payroll system
• Revenue and capital
expenditure
 Syllabus learning outcomes

• Describe control objectives, control procedures, activities and

tests of control in relation to: the sales system, the purchases
system, the payroll system, the inventory system, the cash
system, non-current assets.
 Overview

Audit evidence Internal audit reports

Tests of controls

Sales Purchases Payroll

Revenue and capital

Bank and cash Inventory
expenditure
Chronology of an audit
The sales system 1
The sales system 1
Assertion Control activities Controls Test of controls

Occurrence - To ensure that recorded - The tasks of taking order, recording sale and - Observe the processing of orders
sales transactions represent receiving payment are allocated to three diff staff through the sale cycle and inspect
goods or services provided member sign-offs to evaluate whether proper
- Sales are only recorded if there is an approved segregation of duties is operating
sale orders form and shipping/ dispatch
documentation
- Accounting for numerical sequences of invoices
- Monthly customer statement send out and
customer queries and complaints handle
independently
- Authorised price lists and specified terms of trade -Verify that price lists and terms of
-To ensure that goods and in place. trade are properly documented,
services are provided at authorised and communicated.
authorised prices and on -Examine application controls
authorised terms. for authorization
-To ensure that customers
are encouraged to pay
promptly.

-Authorisation of credit terms to customers -Review entity's procedures for

(senior staff authorisation, references/credit granting credit to customers.
-To ensure that goods and checks for new customers, regular review of -Examine a sample of sales orders
services are only provided to credit limits). for evidence of proper credit
customer with good credit -Authorisation by senior staff required for approval by the appropriate senior
ratings changes in other customer data such as address staff member.
etc. -Examine application controls
-Orders not accepted unless credit limits for credit limits.
reviewed first. -Review all new customer files to
ensure satisfactory credit
references have been obtained.
 Assertion Control objectives Controls Tests of controls
Completeness - To ensure that all revenue - Accounting for numerical - Review and test entity's procedures for
relating to goods despatched sequences of invoices. accounting for numerical sequences of invoices,
is recorded. and inspect invoices to confirm whether they are
sequentially numbered.

- To ensure that all goods and -Shipping/dispatch documentation -For a sample of shipping/dispatch documents,
services sold are correctly is matched to sales invoices. ensure each has been matched to a related
invoiced. -Sales invoices are reconciled to sales invoice that was subsequently recorded.
the daily sales report. -Review a sample of reconciliations performed.
-An open-order file is maintained and Reperform a sample of reconciliations.
reviewed regularly. -Inspect the open-order file for unfilled orders.

Accuracy - To ensure that all sales - Sales invoices and matching - Review supporting documents for a
and adjustments are documents required for all sample of sales entries to ensure they
correctly journalized, entries and the date and contain the written details that indicate
summarized and posted to reference of the entry are they were referred to when
the correct accounts. written on each document.
 Assertion Control objectives Controls Tests of controls
- To ensure that all -Chart of accounts (COA) in place -Inspect any documentary evidence of
transactions are properly and is regularly reviewed for review (such as emails requesting
classified in accounts. appropriateness and updated update to COA as a result of review).
where necessary. -Test application controls for
-Codes in place for different types propercodes
Classification
of products or services.

Cut-off - To ensure that -All shipping documentation is -Compare dates on sales invoices
transactions have been forwarded to the invoicing section with dates of corresponding
recorded in the correct on a daily basis. shipping documentation.
period. -Daily invoicing of goods -Compare dates on sales invoices with
shipped. dates recorded in the sales ledger.
 The sales system

MC Question 12 - June 2015

Which TWO of the following controls of a sales
system ensure that all goods despatched are
completely and accurately invoiced?
(1) Good despatched notes are matched to sales
invoices
(2) Sales invoices are sequentially numbered
(3) Sales invoices are matched to customer orders
(4) Regular review of unfulfilled orders
A. 1 and 2
B. 2 and 4
C. 2 and 3
D. 1 and 4
 Tackling the exam: the sales system

• Deficiencies in the sales system were examined in the 2016

Specimen Paper (Section B, Question 17).
• The most typical requirement you will get is to explain the
deficiencies and the consequences of them, followed by
recommendations to overcome them. Sometimes you are
also required to suggested associated tests of controls.
• The best way to present your answer is in a table format –
this allows you to link the deficiencies with the consequences
and recommendations, and also gives your answer structure.
But make sure you present your answer neatly.
• Don't forget to use a ruler for tables and headings!
 Tackling the exam

• Tests of controls are very likely to be examined as the

examiner will want to see that students understand the
difference between tests of controls and substantive tests.
• Another area of confusion is the difference between control
objectives, controls and tests of controls.
• Control objectives tell you what the control is trying to
achieve and will always start 'To ensure that….'.
• Controls are the processes in place to achieve the control
objectives eg monthly bank reconciliations.
• Tests of controls are carried out by the auditor and are
procedures to gain evidence about whether controls are
working, so to test the control of monthly bank
reconciliations, the auditor would inspect all the bank
reconciliations for the year to see if they had been done
every month.
The purchases system 1
 The purchases system 2

The control objectives for the purchases cycle are..

1. Purchases made only when needed.
2. Purchased at a reasonable price.
3. The goods have satisfactory quality.
4. The goods delivered match those ordered.
5. Purchases are recorded accurately.
6. Payments are valid and paid for in a reasonable
timescale.
The purchases system 2
The purchases system 2
 The purchases system 2

Assertions: Occurrence and existence

Control objective
To ensure that recorded purchases represent goods and services
received.
 The purchases system 3

Assertions: Occurrence and existence

Controls
(i) Authorisation procedures and policies in place for ordering
goods and services
(ii) Segregation of duties
(iii) Purchase orders raised for each purchase and authorised by
appropriate senior personnel
(iv) Approved purchase order for each receipt of goods
(v) Staff receiving goods check them to the purchase order
(vi) Stores clerks sign for goods received
(vii)Purchase orders and GRNs are matched with the suppliers'
invoices
 The purchases system 4

Assertions: Occurrence and existence

Tests of controls
(i) Inspect policies and procedures in place.
(ii) Observe and evaluate segregation of duties.
(iii) Examine a sample of purchase orders to ensure they have been appropriately
authorised.
Review the delegated list of authority for purchases.
(iv) For a sample of GRNs, ensure there is a related purchase order that has been
properly approved.
(v) Observe receipts of goods by staff to confirm whether the check is done.
(vi) Inspect a sample to confirm whether stores staff undertake this check.
(vii) Examine supporting documentation to ensure it has been matched for a sample
of invoices.
 The purchases system 5

Assertions: Completeness

Control objectives
To ensure that all purchase transactions that occurred have been
recorded

Controls
(i) Purchase orders and GRNs are matched with the suppliers'
invoices
(ii) Periodic accounting for pre-numbered GRNs and purchase
orders
(iii) Independent check of amount recorded in the purchase journal
 The purchases system 6

Assertions: Completeness

Tests of controls
(i) For a sample of purchase orders in the year ensure each has
been matched to a related invoice that was subsequently
recorded.
(ii) Review entity's procedures for accounting for pre-numbered
documents.
(iii) Examine application controls.
Examine documentation for evidence of this check.
 The purchases system 7

Assertions: Rights and obligations

Control objectives
To ensure that recorded purchases represent the liabilities of the
entity

Controls
Purchase orders and GRNs are matched with the suppliers' invoices

Tests of controls
Examine supporting documentation to ensure it has been matched
for a sample of invoices
 The purchases system 8

Assertions: Accuracy, classification and valuation

Control objectives
To ensure that purchase transactions are correctly recorded in the
accounting system

Controls
(i) Purchase orders and GRNs are matched with the suppliers'
invoices
(ii) Mathematical accuracy of the supplier's invoice is verified
(iii)Amount posted to general ledger is reconciled to the purchases
ledger
(iv)Chart of accounts in place
 The purchases system 9

Assertions: Accuracy, classification and valuation

Tests of controls
(i) Examine supporting documentation for a sample of invoices.
(ii) Review a sample of invoices for evidence the accuracy has been
verified (eg signature or initials) and reperform the check.
(iii)Review reconciliations for evidence of this check.
(iv)Review purchases journal and general ledger for
reasonableness.
 The purchases system 10

Assertion: Cut-off
Control objectives
To ensure that purchase transactions are recorded in the correct
accounting period
Controls
(i) All goods received reports forwarded to accounts payable
department daily
(ii)Procedures in place that require recording of purchases as soon
as possible after goods/services received
Tests of controls
(iii)Compare dates on reports to dates on relevant vouchers
(iv)Compare dates on vouchers with dates they were recorded in
the purchases journal
 Tackling the exam: The purchases system

• Deficiencies in the purchases system were examined in the

June 2015 paper.
• The requirement was to explain the deficiencies and the
consequences of them, followed by recommendations to
overcome them.
• Do not produce a covering letter unless it is specifically asked
for as you won't get any credit for doing so.
• We will work through the June 2015 question in the next few
slides.
 Question: June 2015 Sec B Question 4

Cherry Blossom Co (Cherry) manufactures custom made furniture and its

year end is 30 April. The company purchases its raw materials from a
wide range of suppliers. Below is a description of Cherry’s purchasing
system.
When production supervisors require raw materials, they complete a
requisition form and this is submitted to the purchase ordering
department. Requisition forms do not require authorisation and no
reference is made to the current inventory levels of the materials being
requested. Staff in the purchase ordering department use the
requisitions to raise sequentially numbered purchase orders based on
the approved suppliers list, which was last updated 24 months ago. The
purchasing director authorises the orders prior to these being sent to
the suppliers.
 Question: June 2015 Sec B Question 4

When the goods are received, the warehouse department verifies

the quantity to the suppliers despatch note and checks that the
quality of the goods received are satisfactory. They complete a
sequentially numbered goods received note (GRN) and send a copy
of the GRN to the finance department.
Purchase invoices are sent directly to the purchase ledger clerk, who
stores them in a manual file until the end of each week. He then
inputs them into the purchase ledger using batch controls and gives
each invoice a unique number based on the supplier code. The
invoices are reviewed and authorised for payment by the finance
director, but the actual payment is only made 60 days after the
invoice is input into the system.
 Question: June 2015 Sec B Question 4

Required:
In respect of the purchasing system of Cherry Blossom Co:
(i) Identify and explain FIVE deficiencies; and
(ii) Recommend a control to address each of these
deficiencies.
Note: The total marks will be split equally between each part.

(10 marks)
 Approach: June 2015 Sec B Question 4

Firstly, look at the requirement carefully: there are 10 marks

available, split between the requirements equally so four marks
each for deficiencies and recommended controls.
Note the requirement for five deficiencies so make sure you
have five but no more as you won't get credit for more than five.
The deficiencies and recommendations should be in a separate
Appendix and presented in a tabular format.
You will see from the model answer that follows that there are
more than four deficiencies that you can choose to include in
your answer.
 Answer: June 2015 Sec B Question 4
Deficiencies Controls
Requisition forms are completed by production Requisition forms should be authorised by the
supervisors but are not authorised. This production manager or director prior to being
increases the risk of fraudulent purchases, or of sent to the purchase ordering department. This
goods being ordered which are not required, department should not process any unauthorised
leading to unnecessary cash outflows. requisitions.

Orders are being placed for goods without the The inventory system should be updated to
inventory levels being checked first. This could record minimum/maximum required levels of raw
result in goods being ordered which are not materials. When completing the purchase order,
required, leading to unnecessary cash outflows. the ordering clerk should check the current level
of inventory on the system and only order if the
quantity is within the set parameters.

In addition, as the company does not currently The company should set minimum authorised
monitor inventory levels, it could experience reorder levels for inventory items.
stock-outs resulting in the company being unable
to meet customer orders.
Answer: June 2015 Sec B Question 4 (cont’d)
Deficiencies Controls
The purchase ordering department maintains an The approved supplier list should be reviewed and
approved supplier list; however, this has not been updated as necessary. Going forward, it should be
updated for 24 months. updated regularly, at least on an annual basis.
As this list has not been recently updated, the
suppliers being used may not be ideal with regards to
price, quality and delivery times. This could result in
Cherry paying increased costs for raw materials or
receiving poorer quality goods.

Goods are being received without any checks being A copy of the authorised order form should be sent to
made against purchase orders. This could result in the warehouse department. This should then be
Cherry receiving and subsequently paying for goods it checked to the goods when received.
did not order.

In addition, if no check is made against the purchase Once checked, the order should be sent to the
order, then the company may have significant purchase ordering department and logged as
purchase orders which are outstanding, leading to completed. On a regular basis, an ordering clerk
loss of sales. should review the order file for any outstanding items.
Answer: June 2015 Sec B Question 4 (cont’d)
Deficiencies Controls
Purchase invoices are manually filed by the The purchase ledger clerk should record the
purchase ledger clerk and only updated to the invoices in the ledger on a daily rather than
ledger on a weekly basis. Until the invoices are weekly basis.
input into the system, there is a risk that they
If this is not practical, then upon receipt of the
may be misplaced and not entered. This would
invoices, each should be attributed a sequential
result in an understatement of trade payables
number and filed. When these are logged into the
and Cherry failing to make payment to the
ledger, the clerk should check that there are no
suppliers on time.
breaks in the sequence.

Purchase invoices are not being agreed to the All purchase invoices should be matched to the
relevant goods received notes (GRNs) prior to related GRN; the details should be agreed prior to
authorisation and payment by the finance the invoice being logged in the purchase ledger.
director. This could result in invoices being paid
for goods which were not received.
Answer: June 2015 Sec B Question 4 (cont’d)
Deficiencies Controls
Purchase invoices are not sequentially numbered. All purchase invoices should be sequentially
Failing to sequentially number them means that numbered and on a regular basis a sequence
Cherry’s finance department are unable to monitor check of unrecorded invoices should be
if all invoices have been completely recorded; this performed.
could result in a failure to make payment to a
supplier on time.
If the invoices are sequentially numbered, then a
sequence check can be performed for any
unrecorded invoices.

Invoices are authorised by the finance director, but The policy of making payment after 60 days
payment is only made 60 days after the invoice is should be reviewed. Consideration should be
input. There is the risk that Cherry is missing out on given to earlier payment if the settlement
early settlement discounts. discounts are sufficient. If not, invoices should be
paid in accordance with the supplier’s payment
Also, failing to pay in accordance with the supplier’s
terms.
payment terms can lead to a loss of supplier
goodwill as well as the risk that suppliers may refuse
to supply goods to Cherry.
 The inventory system 1

The main objectives of the internal control for inventory are:

- Only goods required by the entity are accepted and are
accurately recorded;
- Damaged goods are not accepted and inventory is appropriately
valued;
- The business is not interrupted due to stock outs;
- Inventory is kept securely (not damaged or stolen)
 The inventory system 2

Assertions: Occurrence and existence

Control objective 1
To ensure that all inventory movements are authorised and
recorded
Controls
(i) Pre-numbered documentation (GDNs and GRNs) in use
(ii) Reconciliations of inventory records with general ledger
(iii) Segregation of duties
Tests of controls
(iv) Review documentation in use
(v) Review a sample of reconciliations to confirm they are
performed and then reviewed by a more senior individual
(vi) Observe and evaluate proper segregation of duties
 The inventory system 3

Assertions: Occurrence and existence

Control objective 2
To ensure that inventory included on the statement of financial position physically
exists
Controls
(i) Physical safeguards to ensure inventory is not stolen
(ii) Separate responsibilities for maintenance of records and custodianship
(iii) Inventory counted regularly
Tests of controls
(iv) Review security systems in place
(v) Review policies and procedures in place and discuss them with relevant staff
(vi) Review procedures for counting inventory and attend inventory count
 The inventory system 4

Assertion: Completeness
Control objective
To ensure that all purchases and sales of inventory have been
recorded in the accounting system
Controls
(i) Procedures in place to include inventory held at third parties
and exclude inventory held on consignment for third parties
(ii) Reconciliations of accounting records with physical inventory
Tests of controls
(iii) Review entity's procedures relating to consignment inventory
(iv) Review reconciliations performed and whether reviewed by an
independent person
 The inventory system 5

Assertion: Rights and obligations

Control objective
To ensure that inventory records only include items that belong to
the entity

Controls
Procedures in place to include inventory held at third parties and
exclude inventory held on consignment for third parties

Tests of controls
Review entity's procedures relating to consignment inventory
 The inventory system 6

Assertions: Accuracy, valuation and allocation

Control objective 1
To ensure that inventory quantities have been accurately
determined

Controls
Periodic or annual comparison of inventory with amounts shown in
perpetual inventory records

Tests of controls
Review and test entity's procedures for taking physical inventory
 The inventory system 7

Assertions: Accuracy, valuation and allocation

Control objective
To ensure that inventory is properly stated at the lower of cost and net realisable
value
Controls
(i) Standard costs reviewed by management
(ii) Review of cost accumulation and variance reports
(iii) Inventory managers review inventory regularly to identify slow-moving, obsolete
and excess inventory
Tests of controls
(iv) Review and test entity's procedures for developing standard costs
(v) Inspect variance reports produced
(vi) Discuss with managers how this is done and observe procedure
 The inventory system 8

Assertion: Cut-off
Control objective
To ensure that all purchases and sales of inventory are recorded in
the correct accounting period
Controls
(i) All dispatch documents processed daily to record the dispatch
of finished goods
(ii) All goods inwards reports processed daily to record the receipt
of inventory
(iii) Reconciliations of inventory records with general ledger
Tests of controls
(i) and (ii) Inspect documentation to confirm daily processing
(iii) Review reconciliations performed
 The inventory system 9

Assertions: Presentation

Control objective 1
To ensure that inventory transactions and balances are properly
identified and classified in the financial statements

Controls
Orders for materials and production data forms used to process
goods through manufacturing

Tests of controls
Review entity's procedures and documentation used to classify
inventory
 Exam link: The inventory system

• Deficiencies in the inventory system were examined in June

2010, December 2010 and June 2012.
• The requirement was to explain the deficiencies and the
consequences of them, followed by recommendations to
overcome them.
• Spend time planning your answer – go through the scenario
line-by-line, noting down the potential deficiencies in the
system.
• Again, present your answers in a table, using a ruler for the
table and headings.
 The bank and cash system 1

• The following slides look at the controls around cash.

• Controls around cash payments and receipts are designed to
help prevent theft and fraud.
• First we will look at the controls around cash payments, followed
by controls around cash receipts.
 The bank and cash system 2

Cash payments
Assertion: Occurrence
Control objective
To ensure that only valid cash payments are made
Controls
(i) Segregation of duties
(ii) Supplier statements independently reviewed and reconciled to
trade payables records
(iii) Monthly bank reconciliations prepared and reviewed
(iv) Only authorised staff able to make electronic cash payments
and issue cheques
(v) Electronic cash payments and cheques prepared only after all
source documents have been independently approved
 The bank and cash system 3

Tests of controls
(i) Observe and evaluate proper segregation of duties
(ii) Review procedures for reconciling supplier statements
(iii) Review reconciliations to confirm whether undertaken and
reviewed
(iv) Review delegated list of authority for cash payments
(v) Inspect relevant documentation for evidence of approval by
senior personnel
 The bank and cash system 4

Cash payments
Assertion: Completeness
Control objective
To ensure that all cash payments that occurred are recorded
Controls
(i) Segregation of duties
(ii) Supplier statements independently reviewed and reconciled to
trade payables records
(iii) Monthly bank reconciliations prepared and reviewed
(iv) Review of cash payments by manager before release
(v) Daily cash payments reconciled to posting to payables accounts
(vi) Use of pre-numbered cheques
 The bank and cash system 5

Tests of controls
(i) Observe and evaluate proper segregation of duties
(ii) Review procedures for reconciling supplier statements
(iii) Review reconciliations to confirm whether undertaken and
reviewed
(iv) Inspect sample of listings for evidence of senior review
(v) Review a sample of reconciliations for evidence that they have
been done
(vi) Examine evidence to verify use of pre-numbered cheques
 The bank and cash system 6
Cash payments
Assertions: Accuracy, valuation and allocation
Control objective 1
To ensure that cash payments are recorded correctly in the ledger
Controls
(i) Reconciliation of daily payments report to electronic cash payment transfers and
cheques issued
(ii) Supplier statements reconciled to payables accounts regularly
(iii) Monthly bank reconciliations of bank statements to ledger account
Tests of controls
(iv) Review reconciliations to ensure performed and reviewed
(v) Review reconciliations for a sample of accounts
(vi) Review bank reconciliations for evidence performed and reviewed
 The bank and cash system 7
Cash payments
Assertions: Classification
Control objective 2
To ensure that cash payments are posted to the correct payable accounts and to the
general ledger
Controls
(i) Supplier statements reconciled to payables accounts regularly
(ii) Agreement of monthly cash payments journal to general ledger posting
(iii) Payable accounts reconciled to general ledger control account
Tests of controls
(iv) Review reconciliations for a sample of accounts
(v) Review postings from journal to general ledger
(vi) Review reconciliations for evidence performed and reviewed
 The bank and cash system 8

Cash payments
Assertion: Cut-off
Control objective
To ensure that cash payments are recorded in the correct
accounting period
Controls
Reconciliation of electronic funds transfers and cheques issued with
postings to cash payments journal and payable accounts
Tests of controls
Review reconciliation to confirm it is done regularly
 The bank and cash system 9

Cash payments
Assertions: Presentation
Control objective
To ensure that cash payments are charged to the correct accounts
Controls
(i) Chart of accounts
(ii) Independent approval and review of general ledger assignment
Tests of controls
(iii) Review cash payments journal to assess reasonableness of
charging of accounts
(iv) Review assignment of general ledger account
 The bank and cash system 10

Cash receipts
Assertions: Occurrence
Control objective
To ensure that all valid cash receipts are received and deposited
Controls
(i) Segregation of duties
(ii) Use of electronic cash receipts transfer not received or
deposited
(iii) Monthly bank reconciliations performed and independently
reviewed
(iv) Use of cash registers or point-of-sale devices
(v) Periodic inspections of cash sales procedures
(vi) Restrictive endorsement of cheques immediately on receipt
 The bank and cash system 11

Cash receipts
Assertions: Occurrence
Controls continued
(vii) Mail opened by two staff members
(viii) Immediate preparation of cash book or list of mail receipts
(ix) Independent check of agreement of cash/cheques to be
deposited at bank with register totals and receipts listing
(x) Independent check of agreement of bank deposit slip with
daily cash summary
 The bank and cash system 12
Cash receipts
Assertions: Occurrence
Tests of controls
(i) Observe and evaluate proper segregation of duties
(ii) Examine application controls for electronic cash receipts transfer
(iii) Review monthly bank reconciliations to ensure performed and reviewed
(iv) Observe cash sales procedures
(v) Inquire with managers about results of inspections
(vi) Observe mail opening, including endorsement of cheques
(vii) Observe mail opening procedures
(viii) Observe preparation of cash receipts' records
(ix) Review documentation for evidence of independent check
(x) Review documentation for evidence of independent check
 The bank and cash system 13

Cash receipts
Assertion: Completeness
Control objective
To ensure that all cash receipts are recorded
Controls
(i) Segregation of duties
(ii) Use of electronic cash receipts transfer not received or
deposited
(iii) Monthly bank reconciliations performed and independently
reviewed
(iv) Daily cash receipts listing reconciled with posting to customer
accounts
(v) Customer statements prepared and sent out on a regular basis
 The bank and cash system 14

Cash receipts
Assertion: Completeness
Tests of controls
(i) Observe and evaluate proper segregation of duties
(ii) Observe application controls for electronic cash receipts transfer
(iii) Review monthly bank reconciliations to confirm performed and
independently reviewed
(iv) Review reconciliation
(v) Inquire of management about handling of customer statements
Examine a sample of customers and note frequency of
statements
 The bank and cash system 15

Cash receipts
Assertions: Accuracy, valuation and allocation
Control objective 1
To ensure that cash receipts are recorded at correct amounts
Controls
(i) Daily remittance report reconciled to control listing of
remittance advices
(ii) Monthly bank reconciliation performed and reviewed
independently
Tests of controls
(iii) Review reconciliations
(iv) Review reconciliations for evidence performed and reviewed
 The bank and cash system 16

Cash receipts
Assertions: Classification
Control objective 2
To ensure that cash receipts are posted to correct receivables
accounts and to the general ledger
Controls
(i) Daily remittance report reconciled daily with postings to cash
receipts journal and customer accounts
(ii) Monthly customer statements sent out
(iii) Monthly cash receipts journal agreed to general ledger posting
(iv) Receivables' ledger reconciled to control account
 The bank and cash system 17

Cash receipts
Assertions: Classification
Tests of controls
(i) Review reconciliations
(ii) Review entity's procedures for sending out statements
(iii) Review journal and posting to general ledger
 The bank and cash system 18

Cash receipts
Assertion: Cut-off
Control objective
To ensure that cash receipts are recorded in the correct accounting
period
Controls
Bank reconciliation at period-end
Tests of controls
Review reconciliation to confirm it has been done and reviewed
 The bank and cash system 19

Cash receipts
Assertions: Presentation and disclosure
Control objective
To ensure that cash receipts are charged to the correct accounts
Controls
(i) Chart of accounts in place and regularly reviewed
(ii) Codes in place for different types of receipts
Tests of controls
(iii) Inspect any documentary evidence (eg emails requesting
update to chart of accounts as a result of review)
(iv) Test application controls for proper codes
 Exam link: Cash controls

• Cash controls around cash payments and receipts will also be

relevant to controls in the purchasing and sales systems
respectively, so could be examined on a question on
deficiencies in a purchases or sales system.
 The payroll system 1
The control objectives for the payroll cycle are:
1. Only work done is paid for
2. Pay is accurately calculated
3. Pay is correctly made
4. Pay is authorised
5. Deductions are correctly calculated and paid
The payroll system 2
The payroll system 2
 The payroll system 3

Tests of Control - Payroll Cycle

• These will potentially include:
1. A sample of wages and salaries should be re-
performed
2. The calculation will agree with authorised pay rates
and timesheets
3. Test sample of timesheets for authorisation (esp.
overtime)
4. Attend a cash pay out looking for two people
present & one wage per person
5. Review wages reconciliation and ensure done
regularly
6. Ensure changes to payroll are authorised
7. Check reasonableness of payroll deductions and
ensure authorised
 Exam link: The payroll system 2

The September 2013 edition of Student Accountant contains an

excellent article on the audit of wages:
http://www.accaglobal.com/en/student/acca-qual-student-jour
ney/qual-resource/acca-qualification/f8/technical-articles/the-a
udit-of-wages.html
 Revenue and capital expenditure 1

• It is important that an entity has controls in place to ensure that

capital and revenue expenditure are accounted for correctly as
errors will result in the misstatement of profit and net assets.
• Management may have an incentive to misclassify expenditure
in order to manipulate profit or for tax purposes.
• Costs which are susceptible to incorrect accounting treatment
are repairs and maintenance, research and development, and
website/software costs.
 Real World Example: WorldCom

In 2001, WorldCom recognised over $3 billion of operating costs

as capital expenditure on its statement of financial position.
These costs related to 'line costs' – fees that the company had to
pay other telecom companies for the right to access their
networks.
If the company had recognised this as revenue expenditure that
year, it would have made a loss, but by capitalising the costs, it
managed to smooth its earnings.
The fraud was uncovered by WorldCom's internal auditors and
its new external auditors, KPMG.
 Revenue and capital expenditure 2

Assertion: Authorisation
Control objectives
To ensure that expenditure is properly authorised
Controls
(i) Orders for capital items should be authorised by appropriate
levels of management.
(ii) Order should be requisitioned on appropriate (different to
revenue) documentation.
(iii) Invoices should be approved by the person who authorised the
order.
(iv) Invoices should be marked with the appropriate general ledger
code.
 Revenue and capital expenditure 3

Tests of controls
(i) Review policies and procedures in place.
(ii) Examine a sample of orders for appropriate authorisation.
(iii) Inspect invoices to verify the invoice has been appropriately
approved.
(iv) Inspect invoices to verify the invoice has the correct general
ledger code marked on it.
 Revenue and capital expenditure 4

Assertion: Completeness
Control objectives
To ensure that all non-current assets are correctly recorded in the
accounting system
Controls
(i) Capital items should be written up in the non-current asset
register.
(ii) The non-current asset register should be reconciled regularly to
the general ledger and any differences should be investigated
and resolved promptly.
 Revenue and capital expenditure 5

Assertion: Completeness
Tests of controls
Review reconciliations to ensure they are regularly carried out,
reviewed by a more senior person, and that all discrepancies are
followed up and resolved on a timely basis.
 Revenue and capital expenditure 6

Assertion: Classification
Control objectives
To ensure that all expenditure is classified correctly in the financial
statements as capital or revenue expenditure
Controls
As for purchases system
Tests of controls
As for purchases system
 Question: Specimen Paper (Sec B, Question 6a)

Baggio International Co (Baggio) is a manufacturer of electrical equipment. It has

factories across the country and its customer base includes retailers as well as
individuals, to whom direct sales are made through their website. The company's year
end is 30 September 20X5. You are an audit supervisor of Suarez & Co and are
currently reviewing documentation of Baggio's internal control in preparation for the
interim audit.
Baggio's website allows individuals to order goods directly, and full payment is taken
in advance. Currently the website is not integrated into the inventory system and
inventory levels are not checked at the time when orders are placed. Inventory is
valued at the lower of cost and net realisable value.
 Question: Specimen Paper (Sec B, Question 6a) cont'd

Goods are despatched via local couriers; however, they do not always record
customer signatures as proof that the customer has received the goods. Over the past
12 months there have been customer complaints about the delay between sales
orders and receipt of goods. Baggio has investigated these and found that, in each
case, the sales order had been entered into the sales system correctly but was not
forwarded to the despatch department for fulfilling.
Baggio’s retail customers undergo credit checks prior to being accepted and credit
limits are set accordingly by sales ledger clerks. These customers place their orders
through one of the sales team, who decides on sales discount levels.
 Question: Specimen Paper (Sec B, Question 6a) cont'd

Raw materials used in the manufacturing process are purchased from a wide range of
suppliers. As a result of staff changes in the purchase ledger department, supplier
statement reconciliations are no longer performed. Additionally, changes to supplier
details in the purchase ledger master file can be undertaken by purchase ledger clerks
as well as supervisors.
In the past six months, Baggio has changed part of its manufacturing process and as a
result some new equipment has been purchased, however, there are considerable
levels of plant and equipment which are now surplus to requirement. Purchase
requisitions for all new equipment have been authorised by production supervisors
and little has been done to reduce the surplus of old equipment.
 Question: Specimen Paper (Sec B, Question 6a) cont'd

Required:
(a) In respect of the internal control of Baggio International Co:
(i) Identify and explain SIX deficiencies;
(ii) Recommend a control to address each of these
deficiencies; and
(iii) Describe a test of control Suarez & Co would
perform to assess if each of these controls is operating
effectively.
Note. The total marks will be split equally between each part.
(18 marks)
 Answer: Specimen Paper (Sec B, Question 6a)

Deficiency and explanation Recommended control Test of control

The website and inventory The website should be fully Use test data to order items not
system are not integrated. This integrated with the inventory currently in stock to ensure that
could result in orders made via system so that orders are the customer is informed and an
the website not being fulfilled processed only when the item is approximate time is given for
and consequent loss of revenue in stock. Where an item is out of when the item is next expected
and customer goodwill. stock, the website should be able to be in stock.
to inform customers when stock
would be replenished.

Couriers do not always take a Couriers must take a signature Inspect a sample of goods
signature from the customer on from the customer on delivery of despatched notes to confirm
delivery. This gives rise to the the goods as proof of delivery. that customer signatures have
risk of theft by couriers and the been taken.
risk that customers who have
had their item delivered claim
not to have received it, leading
to goods being despatched
twice.
 Answer: Specimen Paper (Sec B, Question 6a) cont'd

Deficiency and explanation Recommended control Test of control

There is a long delay between As soon as an order has been For a sample of sales orders,
the placing of the order and the made, it should be entered into compare the time of the order
despatch of the products. This the sales system and sent to the to the time the order was
will result in a loss of customer despatch department despatched to ensure that
goodwill and damage and straightaway with a copy of the despatch of orders is being
reputation of the company. sales order form. The system carried out on a timely basis.
should flag any outstanding Review the report of outstanding
sales orders past a certain sales orders.
period.

Sales ledger clerks set credit For any new retail customers, For a sample of new customers,
limits for retail customers limits should be authorised by a review the credit limits set to
without any monitoring. senior manager and reviewed on ensure they are reasonable and
Inappropriate limits could be set, a regular basis. were authorised by an
resulting in goods not being paid appropriate senior staff member.
for and irrecoverable debts.
 Answer: Specimen Paper (Sec B, Question 6a) cont'd

Deficiency and explanation Recommended control Test of control

The sales team decide on the Discount levels should be set by Review the discount levels for a
level of discounts for retail an authorised manager. Any sample of customers to ensure
customers. This could lead to changes to the discount level they were set by appropriate
levels of discount being offered should be discussed and personnel and any changes were
at too high an amount, resulting authorised by a senior manager. authorised.
in loss of revenue.

The company uses a wide range A preferred supplier list should Review the raw material
of suppliers. As a result, it may be set up and used when purchase orders against the
be missing out on bulk discounts. purchasing raw materials. supplier list to confirm that only
There is also a risk of raw preferred suppliers are used.
materials not being of the
required quality, affecting
customer goodwill.
 Answer: Specimen Paper (Sec B, Question 6a) cont'd

Deficiency and explanation Recommended control Test of control

Supplier statement Monthly supplier reconciliations Inspect supplier statement

reconciliations are not must be undertaken by purchase reconciliations to ensure they
performed. This could result in ledger clerks and reviewed by have been prepared each month
errors in the recording of the finance director, with any and then reviewed by a more
purchases and disputes with discrepancies being investigated senior staff member.
suppliers. on a timely basis.

Purchase ledger clerks can make Only authorised personnel Review the register of
changes to supplier details in should have the ability to amend amendments made to the
the purchase ledger master file. details in the purchase ledger purchase ledger master file to
This could result in fraud through master file. confirm that only authorised
the set up of fictitious suppliers. staff have made changes.
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