Internal Controls and Substantive Testing
You are the auditor of PC Ltd., a company that produces low cost electronic goods to children and young adults. The audit has a year end of 30th June 2012.
There are four main people involved with the acquisitions of inventory for PC Ltd. Ms Auburn is the purchases officer; Mr Brown is the Accounts Payable Clerk; Mr Crimson is the Financial Controller and Ms Dark is the Payments Officer.
The acquisitions system works as follows:
- Ms Auburn is responsible for purchases within PC ltd. There is a computerized inventory system and whenever the inventory level goes below a certain level, Ms Auburn prepares a purchases requisition to buy new stock from one of three suppliers that PC uses.
- Ms Auburn then prepares a three part prenumbered purchase order. Every Month Mr Crimson reviews a listing of purchase orders issued to ensure all have been accounted for. The original copy of the purchase order is sent to the vendor. The receiving department within PC is sent the second copy, which is then used as a receiving report. The third and final copy is kept on file within the purchases department along with the original purchases requisition.
- When the purchased goods arrive they are immediately sent to the receiving department where the receiving report (which is the second copy of the invoice) is filled out by the store-room employee and authorized by the store-room supervisor. A copy of this document is taken and kept in the store-room. The original is sent to Mr Brown in accounts payable.
- When the supplier invoice is received it is forwarded to Mr Brown. He checks the price on the invoice compares the quantities to the details on the receiving report and checks the footings and calculations. Once this is done he enters the details of each invoice into the computer system that updates the purchases journal and accounts payable master file.
- The invoice is then sent to Mr Crimson for authorisation. Attached to the invoice is a copy of the materials purchase requisition and the receiving report. After Mr Crimson has approved the invoice for payment the documents are sent to the person responsible for cheque preparation in the accounting department (Ms Dark).
Required:
a) Identify three controls that operate within this system and state the potential errors they are aimed at preventing.
b) Describe two additional controls (or improvements to controls) that you would implement into this system and why.
c) Describe the substantive tests that you would perform on transactions in the acquisitions cycle of this system to gain adequate assurance over the assertions of completeness, cut off and accuracy.