ACCT 743 - Lesson 6

9 Control Principles

1. Separation of Duties 2. Process Integration 3. Management Support 4. Responsibility 5. Conscientious Application 6. Systems Knowledge 7. Error Reporting 8. Staffing 9. Outlier Analysis

3 factors that make it more likely that fraud will occur or is occurring

1. Size and Value - Items have high value in proportion to size = easier to steal 2. Ease of resale - Increased temptation if there is a market for the stolen goods 3. Cash - Large amount of bills on hand = higher risk of fraud

7 Steps to create a system of controls

1. Understand the New system 2. Explore Possible Control Breaches 3. Quantify Possible Control Breaches 4. Design Controls 5. Implement the Controls 6. Test the System 7. Conduct a Post-Implementation review

The granting of credit to a new customer is typically based on:

A credit application

When a customer is being invoiced a non-standard price:

A possible control is to confirm the price with the sales manager

BestSellers.com sells fiction and nonfiction books and e-books to customers through the company's website. Customers place orders for books via the website by providing their name, address, credit card number, and expiration date. What internal controls should BestSellers.com implement to ensure that shipments of books occur only for customers who have the ability to pay for those books?

BestSellers.com could integrate its online ordering system with its inventory system so that a book shipment is made only after the customer's credit card company approves the customer's purchase. Because credit card issuers often transfer funds electronically almost immediately after a sale, BestSellers.com could also set up their system to ship books only after payment has been received by the credit card issuer. Finally, BestSellers.com could arrange with an online credit service bureau to run credit checks on customers purchasing over a preset minimum amount.

The advantage of applying cash from check copies is that:

Checks can be deposited faster

A credit decision table is used to:

Consistently determine the amount of credit to be granted

Process integration principle states that:

Controls be thoroughly intertwined with business processes

Event that can trigger the review of system of controls:

Going Public

A good way to ensure a credit review is:

Not allowing shipments without a credit stamp on the sales order

If an item is not in stock, a copy of the backorder form goes to the:

Order Entry Staff

Separation of duties in cash receipts mandates that

Person handling cash cannot access customer billing system

Explain the importance of proper credit approval for sales. What effect do adequate controls in the credit function have on the auditor's evidence accumulation?

Proper credit approval for sales helps minimize the amount of bad debts and the collection effort for accounts receivable by requiring that each sale be evaluated for collection potential. Adequate controls in the credit function enable the auditor to place more reliance on the client's estimate of uncollectible accounts. Without these controls, the auditor would have to make his or her own credit checks on the customers in order to be convinced that the allowance for uncollectible accounts is reasonable.

The __________ area should have among the most comprehensive controls in a company

Recordkeeping

Manual Control

Requires someone to manually perform the control. Second signature on a check payment

Why should there be a mix of preventive and detective controls?

Should be a mix because, even though preventive are more valuable, they can be intrusive to the functioning of key business practices and are set up to detect issues management is aware of. Need detective to spot issues not aware of.

Drop shipping is:

The process of having a supplier ship goods directly to a customer

Billing to the customer is triggered by

The shipment of the order

Explain how pre-numbered shipping documents and sales invoices can be useful controls for preventing misstatements in sales.

The use of pre-numbered documents is meant to prevent the failure to bill or record sales as well as to prevent duplicate billings and recordings. An example of a useful control to provide reasonable assurance that all shipments are billed is for the billing clerk to file a copy of all shipping documents in sequential order after a shipment has been billed. Periodically, someone can account for all numbers in the sequence and investigate the reason for missing documents. Computer programs can be used to identify gaps and duplicates in the sequence. The same type of a useful test in this area is to account for the sequence of duplicate sales invoices in the sales journal, watching for omitted numbers, duplicate numbers, or invoices outside the normal sequence. This test simultaneously provides evidence of both the occurrence and completeness objectives.

It may be necessary to request a replacement purchase order from a customer when:

There is a significant difference in the terms used on the purchase order from those used by the company

The shipping log is useful to the accounting department:

To verify that all shipped items were billed

A no-price sales order:

Usually contains marketing samples

It is necessary to review master purchase agreements in order to:

Verify that customers have ordered enough goods to justify reduced prices

From a cash receipts perspective, gross margin trend analysis reveals:

When employees take cash at the point of sale and destroy evidence of the sale

An efficient way to document controls is to:

a. Post documentation on an intranet site

YourTeam.com is an online retailer of college and professional sports team memorabilia such as hats, shirts, pennants, and other sports logo products. Consumers select the college or professional team from a pull-down menu on the company's website. For each listed team, the website provides a product description, picture, and price for all products sold online. Customers click on the product number of the items they wish to purchase. The following items are internal controls YourTeam.com has established for its online sales: a. Only products shown on the website can be purchased online. Other company products not shown on the website listing are unavailable for online sale. b. The online sales system is linked to the perpetual inventory system that verifies quantities on hand before processing the sale. c. Before the sale is authorized, YourTeam.com obtains credit card authorization codes electronically from the credit card agency. d. Online sales are rejected if the customer's shipping address does not match the credit card's billing address. e. Before the sale is finalized, the online screen shows the product name, description, until price, and total sales price for the online transaction. Customers must click on the "Accept" or "Reject" sales buttons to indicate approval or rejection of the online sale. f. Once customers approve the online sale, the online sales system generates a pending sales file, which is an online data file that is used by warehouse personnel to process shipments. Online sales are not recorded in the sales journal until warehouse personnel enter the bill of lading number and date of shipment into the pending sales data file. For each control, describe potential financial misstatements that could occur if the control was not present.

a. Sales may be recorded for invalid or nonexistent products. Sales may be processed based on inaccurate price information. b. Sales may be recorded for nonexistent products. Sales may be processed for existing products using quantities ordered, even when ordered quantities are not on hand. c. Sales may be processed for customers who are unable to pay. d. Shipments may be made to a person making an unauthorized credit card purchase (e.g. with a stolen credit card). e. Sales may be processed inaccurately (e.g. wrong product, wrong price, wrong quantity). f. Sales may be recorded even though shipment has not occurred. Sales may be recorded in the wrong time period.

The receiving staff should use a list of open return merchandise authorizations:

as the basis for rejecting customer returns

An example of a validation check is to:

automatically check quantities on hand

Controls are more likely to fail:

because they rely upon the judgment of the people operating them

the allowance for doubtful accounts is commonly calculated:

by applying a bad debt percentage to each 30 day bucket

Automated Control

control performed by an automated system, without interference of a person

Detective Controls

controls designed to discover control problems that were not prevented

Preventative Controls

controls that deter problems before they arise

a standard collection procedure is most applicable:

for trainee collection personnel

The cashier can assist the collections staff by:

immediately updating the accounts receivable records with cash received

When a payment does not identify the invoice being paid:

it is recorded in a suspense account

In the cash receipts process, the mailroom

makes a list of all payments received in the mail

The reported revenue level can be increased by:

shifting late shipments into the preceding accounting period

A reasonable control over the collections staff is:

supervisory approval of actions taken

A good control over billing fraud is:

to not let the billing clerk apply cash received from customers

Reasonable control over website entry of a customer invoice is:

to obtain a confirmation from the website

The sales order is:

used to document a customer order in a company's internal format

By locking up the credit approval stamp:

you can prevent a sales order from being fulfilled without a credit review