ATC F8 materials FF8 AA (Int)Session36 j08

OVERVIEW

Objective

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To illustrate control objectives, internal control procedures, tests of control and substantive procedures for revenue and expense transaction cycles.

SALES

MANAGEMENT PERSPECTIVE

AUDIT PRESPECTIVE INVENTORY

(Session 23)

CASH (Session 25)

PURCHASES PAYROLL

CONTROL OBJECTIVES

INTERNAL CONTROLS

SUBSTANTIVE PROCEDURES

TESTS OF CONTROL

AUDIT TESTS

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1

SALES CYCLE

1.1

Control objectives

Order received Goods despatched Invoice raised Transactions recorded in books

Cash receipts Stage 1 Stage 2 Stage 3 Stage 4 Stage 5

To ensure that . . . .

. . . entity only deals with credit worthy customers.

. . . despatches are valid, and adequately recorded.

. . . invoices are raised for all despatches, and accurate.

. . . information is complete, accurate and up to date (⇒ credit control)

. . . receipts are recorded/banked promptly and intact (reduces risk of misappropriation).

“Complete”, “accurate,” “valid” are key words in accounting control objectives. “Prompt” is a more commercial objective.

1.2

Internal control examples

1.2.1

Sales orders

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Authorised

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Serially numbered (i.e. pre-numbered or generated in strict numerical sequence)

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Copy retained/Register kept

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Validated (price, quantity, availability, customer creditworthiness)

1.2.2

Despatches

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Creditworthiness check

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Matched to authorised order

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Goods checked

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Serially numbered despatch notes (“DNs”)

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Sequence check

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Proof of delivery

1.2.3

Sales invoices

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Matched with order/DN

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Price check

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Calculation check

1.2.4

Recording

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Pre-listing (e.g. in a sales day book)/Batch control system

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Control a/cs and reconciliation thereof

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Monthly statements

1.2.5

Cash receipts

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Mail opening procedures include 2 staff members

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Pre-listing of receipts

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Regular bank control a/c reconciliations prepared/reviewed

1.3

Tests of controls

ICQ ref Conclusions Management letter points

1 Check for evidence of regular

inventory reconciliations, ensuring that they appear reasonable with no

unexplained differences.

2 For n goods despatch notes, check cross-referenced to invoice and check for evidence of sequence test.

3 For n sales invoices, check for initials/grid stamp.

4 Check for evidence of sequence check on sales day book (SDB).

5 Examine n sales ledger control a/c reconciliations and ensure reasonable with no differences brought or carried forward.

1.4

Substantive procedures

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Example 1

Using the schedule which follows:

(a) For each sales cycle key control question, identify a key control (i.e. one which prevents/detects promptly material errors).

(b) For each key control identified, suggest an appropriate test of control.

Key control question

(a) Types of key control

(b) Possible test of control

1 Can goods be despatched but not invoiced?

2 Can invoices be raised but omitted from the sales day book?

3606

2

PURCHASES CYCLE

2.1

Control objectives

O rders placed Goods received Invoice received Transactions recorded in books

Cash payments Stage 2 Stage 3 Stage 4 Stage 5 Stage 6 R equisition raised Stage 1

To ensure that . . .

. . . requisition is for valid and necessary business expense.

. . . ordering is efficient and cost effective.

. . . goods are not damaged/ wrong items, etc.

. . . suppliers do not overcharge (eg fail to recognise discounts).

. . . management has timely information concerning liabilities.

. . . payments are made to bona fide suppliers for goods received.

2.2

Internal control examples

2.2.1

Requisition

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Authorised

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Serially numbered

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Buyer (to secure value for money)

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Inventory checks (to prevent overstocking)

2.2.2

Purchase orders

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In writing

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Serially numbered and sequence checked

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Priced

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Authorised

2.2.3

Goods received

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Serially numbered GRNs

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Goods checked

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Matched to order

2.2.4

Purchase invoices

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Recorded promptly (e.g. in purchase day book) and serially numbered on receipt

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Checked to GRN/PO

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Check calculations

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Checked to statements

2.2.5

Recording

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Batch control system

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Control a/cs and reconciliation thereof

2.2.6

Cash payments

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Authorised cheque signatories

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Two signatures for larger payments

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Review supporting documents

2.3

Tests of control

Sample

details ICQ ref Weakness letter points

1 Test purchase requisitions against purchase orders and examine the system of authority for ordering goods and services.

2 Scrutinise all tenders received, where applicable, in respect of a sample of transactions and ascertain the reason why each tender has been selected. 3 Test sequence of purchase orders and

enquire into those missing.

4 Review value of orders placed with relevant management accounts and budgets, and enquire into significant variances.

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3

WAGES CYCLE

3.1

Control objectives

Clockcards submitted and input Stage 1 Stage 2 Stage 3 Stage 4 Stage 5

Final payroll calculated and payslips produced Gross pay, deductions and net pay calculated

Other amendments input

Payments to employees and Inland R evenue

Payroll costs and payments recorded in books Stage 6

To ensure that . . .

only bona fide e’ees are paid for work done.

. . . calculations are accurate.

. . . amendments (eg starters and leavers) are valid.

. . . deductions for PAY E, N IC, SSP etc. are accurate.

. . . payments are made to those entitled to receive them.

. . . amounts are correctly posted to G/ L a/ cs.

3.2

Internal control examples

3.2.1

Clockcards

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Safe custody and restricted issue

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Supervised clocking in/out

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Authorisation/Overtime approved

3.2.2

Payroll preparation

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Checked and approved

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Amendment forms authorised

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Supporting documents for starters/leavers

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Independent review

3.2.3

Cash payments

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Payout witnessed

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Wage receipts evidence

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Safe custody of pay packets

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Specific authority to disburse unclaimed wages

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Unclaimed wages re-banked intact

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Use of credit transfer facilities

3.2.4

Recording

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Referencing to N/L a/c codes on posting

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Review of control a/cs

3.3

Tests of control

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Review employee files and verify that all engagements, dismissals or status changes are in writing and authorised by a responsible official.

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Examine records of bonus, overtime payments and similar for agreement with related accounting records and authorisation by a responsible official.

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For a sample of employees, reperform calculations of gross pay, bonus, overtime, PAYE and NIC deductions etc. Verify payroll changes with payroll file.

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Review payrolls to verify that all checks or calculation preparation and authorisation have been done.

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Compare company payrolls with paid cheques for cash drawn noting that net amounts have been exactly drawn.

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Examine the banking of unclaimed wages.

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Verify that liability accounts have been set up for PAYE, NIC and pension contributions and that such sums are paid over on due dates.

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Verify cash drawn for a sample of weekly payments with payrolls and ensure that all cash is properly accounted for.

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Verify the calculations and formal entries of payroll liabilities and identify settlement amounts.

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Trace entries to nominal ledger to obtain assurance on analysis and recording procedures.

3.4

Substantive procedures

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FOCUS

You should now be able to:

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specify internal control objectives for a given system (sales, purchases, wages);

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suggest appropriate internal controls to meet those objectives(sales, purchases, wages);

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design tests of controls for inclusion in a work program;

EXAMPLE SOLUTION

Solution 1 — Tests of control

Key control question

(a) Types of key control

(b) Possible test of control

1 Can goods be despatched but

not invoiced?

Goods despatch note and invoice part of same set

(or otherwise matched) and sequence checked.

Regular reconciliation of inventory per physical

count to records and investigation of

differences.

Check cross-reference to invoice for a sample of

despatch notes and check for evidence of sequence

check.

Check for evidence of regular reconciliations and

ensure they appear reasonable (i.e. no unexplained

differences).

2 Can invoices be raised but omitted from the sales day book?

Posting to sales day book evidenced on invoice

(e.g. by grid stamp).

Sales day book entries are sequence checked to

ensure all invoices entered.

Check initials/grid stamp on a sample of invoices.

Check for evidence of sequence check (e.g. evidence

of investigation of missing items).

3 Can invoices be raised but not recorded in the sales ledger or the nominal ledger?

Regular reconciliation of total balances per sales

(i.e. receivables) ledger accounts and sales (i.e.

receivables) ledger control account balance.