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  • 20 Marks

AA – L2 – Q35 – Internal Control Systems

List internal controls for capital and revenue expenditure on a vehicle fleet at Countrywide Retail. List tests of control for capital and revenue expenditure on a vehicle fleet at Countrywide Retail.

The transport department of Countrywide Retail operates a fleet of 100 motor vehicles. Some vehicles are purchased for cash and some are leased.

(a) List the internal controls you would expect to see in place over capital and revenue expenditure on the vehicle fleet.

(b) Set out the tests of control that the auditor might perform over capital and revenue expenditure on the vehicle fleet.

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  • 25 Marks

AAA – L3 – Q29 – Internal Controls

Describe internal controls and financial statement risks for Heritage Art Gallery and Museum's identified risks.

The Heritage Art Gallery and Museum (HAGM) is in the centre of a city that is popular with tourists. About 65% of its revenue comes from admission fees and annual memberships, and about 30% of its revenue comes from sponsorship of special exhibitions by companies. Most of the remaining revenue comes from a small café and gift shop in the art gallery and museum.
Admission fees come from sales of tickets to daily visitors and from annual membership subscriptions from ‘Friends of HAGM’ who are entitled to free entry to the art gallery and museum at any time.
Day tickets can be purchased by credit card in advance, by a telephone ‘hotline’ or at HAGM’s website on the Internet. Alternatively, day tickets can be bought with cash or credit card at the ‘door’ on the day of the visit. Reduced prices are available for children, students and individuals aged over 65, and there are also special reduced-price ‘family tickets’ for two adults and two children.
Sponsorship arrangements are agreed up to 18 months in advance. Some corporate sponsors, particularly transport companies (bus companies and railway companies) sell advertising to HAGM.
The management of HAGM have identified the following applicable risks that need careful attention. They believe that these risks should be managed actively.

  1. There is a failure to attract more visitors because of the poor condition of many of the paintings in the art gallery and of the items in the museum. Paintings must be restored regularly because their condition deteriorates. HAGM has just one specialist restorer, who is unable to keep up with the required volume of work. The management of HAGM recognise that investment in new items and the restoration of existing items is inadequate, but blame the lack of revenue for the problem.
  2. Some corporate sponsorship agreements may not be invoiced due to poor communication between the sponsors, HAGM’s sponsorship managers and the accounts department of HAGM.
  3. Some sponsorship agreements are not invoiced at their correct amount. This happens often when a sponsor is also a company that provides advertising for HAGM. Normal practice is for these sponsors to deduct their advertising charges from the amount they pay to HAGM in sponsorship. However, the accounts department in HAGM are not given the details of these set-off arrangements.
  4. Some of the cash received from day visitors at the door may be stolen (or lost, or used by management for business expenses) and does not reach HAGM’s cashier.
  5. The on-line booking system for buying tickets in advance on the HAGM website is not always available because the website is ‘down’.
    Required:
    (a) Describe appropriate internal controls to manage each of the applicable risks
    (b) Explain the financial statement risks that arise from each of these applicable risks

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  • 30 Marks

AA – L2 – Q34 – Audit Evidence

Explains importance of year-end inventory counting for auditors in non-perpetual inventory systems. Describes audit procedures to rely on a perpetual inventory system in a large, dispersed organisation Describes deficiencies in Lennox’s inventory counting instructions and why they are difficult to overcome. Describes audit evidence from third-party inventory confirmation, practical difficulties, and alternative evidence.

(a) Explain why year-end inventory counting is important to the auditors of organisations that do not have perpetual inventory systems.

(b) Describe audit procedures you would perform in order to rely on a perpetual inventory system in a large, dispersed organisation.

(c) Carter Retail is a family-owned company which retails beds, mattresses and other bedroom furniture items. The company’s year-end is 31 December. The only full inventory count takes place at the year end. The company maintains up-to-date computerised inventory records.
Where the company delivers goods to customers, a deposit is taken from the customer and customers are invoiced for the balance after the delivery. Some goods that are in inventory at the year-end have already been paid for in full – customers who collect goods themselves pay by cash or credit card.
Staff at the company’s warehouse and shop will conduct the year end count. The shop and warehouse are open seven days a week except for two important public holidays during the year, one of which is 1 January. The company is very busy in the week prior to the inventory count but the shops will close at 15.00 hours on 31 December and staff will work until 17.00 hours to prepare the inventory for counting. The company has a high turnover of staff. The following inventory counting instructions have been provided to staff at Carter Retail.
(i) The inventory count will take place on 1 January 20X5 commencing at 03/00 hours. No movement of inventory will take place on that day.
(ii) The count will be supervised by Mr Baker, the inventory controller. All staff will be provided with pre-printed, pre-numbered inventory counting sheets that are produced by the computerised system. Mr Baker will ensure that all sheets are issued, and that all are collected at the end of the count.
(iii) Counters will work on their own, because there are insufficient staff for them to work in pairs, but they will be supervised by Mr Baker and Mrs Wilson, an experienced shop manager who will make checks on the work performed by counters. Staff will count inventory with which they are most familiar in order to ensure that the count is completed as quickly and efficiently as possible.
(iv) Any inventory that is known to be old, slow-moving or already sold will be highlighted on the sheets. Staff are required to highlight any inventory that appears to be soiled or damaged.
(v) All inventory items counted will have a piece of paper attached to them that wil show that they have been counted.
(vi) All inventory that has been delivered to customers but that has not yet been paid for in full will be added back to the inventory quantities by Mr Baker.

Required:
Describe the deficiencies in Carter Retail’s inventory counting instructions and explain why these deficiencies are difficult to overcome.

(d) Where inventory is held by third parties auditors will need to obtain external confirmation of such inventory.

Describe the audit evidence provided by such confirmation, the practical difficulties in obtaining it and the alternative audit evidence available when such confirmation is not provided.

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  • 15 Marks

AA – L2 – Q33 – Internal Control Systems

Discuss shortcomings in Samba Enterprises' expense claim system and suggest improvements. List tests of control for Samba Enterprises' expense claim system.

Samba Enterprises employs 100 salesmen, each of whom covers a different area and is supplied with a car. At the end of each week, each salesman submits an expense claim on a pre-printed form with supporting vouchers attached. Expenditure is on fuel together with invoices for hotel accommodation, meals, and entertaining.
Each claim is scrutinised by the assistant accountant. He raises any queries with the salesman concerned and makes out cheques for signature by two directors.
The amount of salesmen’s expenses paid out annually is material to the financial statements.

Required:
(a) Discuss the shortcomings of this system and suggest ways in which it could be improved.

(b) List the tests of control that the auditor might perform on this system.

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  • 25 Marks

AA – L2 – Q32 – Internal Control Systems

Specify control objectives for revenue cycle stages (order processing, despatch, return) and explain their importance. List internal controls for a manual revenue cycle system to achieve control objectives.

When considering the internal controls in a revenue cycle, the auditor will need to consider the following stages:

  • the processing of orders; and
  • the despatch and return of goods

Required:
(a) Specify the control objectives for each of the above stages in a revenue cycle where all sales are made on a credit basis and explain their importance.

(b) List the internal controls you would expect to see in place in a simple manual system in order to achieve those objectives.

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  • 10 Marks

AA – L2 – Q31 – Internal Control Systems

Discuss methods for ascertaining and recording an entity's accounting and internal control system.

Internal Control Systems (ICS)
Required:
Discuss the usefulness of the different methods available to an auditor for ascertaining and recording an entity’s accounting and system of internal control.

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  • 35 Marks

AA – L2 – Q30 – Internal Control Systems

Describe normal controls expected in a wages system and their purposes. Describe how to verify employees are not paid before commencing work. Describe audit procedures for attending a cash wages pay-out to manufacturing employees. Describe substantive procedures for the unclaimed wages system. Describe evidence to verify existence of employees paid via bank, including those at sales offices.

Apex Engineering
Your firm is the external auditor of Apex Engineering, a listed company, which has revenue of $75 million. The head office site includes the manufacturing unit, the accounting functions, and main administration. There are a number of sales offices in different parts of the country. Apex Engineering does not have an internal audit function.
At the interim audit, you have been assigned to the audit of the wages system. This will involve obtaining an understanding of the wages system, testing the controls, and performing substantive procedures in order to verify wages transactions.
The wages records are maintained on a computer, and all the wages information is processed at the head office. Some of the employees in the manufacturing unit are paid in cash, and all other employees have their wages paid directly into their bank account.
Manufacturing employees are paid their wages a week in arrears. All other employees are paid at the end of each week or month.
There is a personnel department which is independent of the wages department. The personnel department maintains records of the employees, including their starting date, grade, current wage rate, and leaving date (if appropriate).
Previous years’ audits have revealed frauds by wages department staff which have been facilitated by deficiencies in controls in the wages system. These frauds have included:

  • paying employees after appointment but before they commenced work;
  • paying employees after they have left; and
  • paying fictitious employees.
    A check of current controls in the wages system has revealed that the company has failed to instigate controls to prevent these types of fraud recurring. So the audit programme requires extensive substantive procedures to be carried out to ensure that recorded wages transactions have not been misstated by similar frauds taking place in the current year.
    The existence of employees at the head office site can be verified by physical inspection. From a cost-effectiveness point of view, only a small sample of sales offices will be visited. The audit manager has asked you to consider the audit procedures you would carry out to obtain sufficient appropriate evidence of the existence of employees at sales offices not visited by the audit staff.
    The audit manager has explained that ‘unclaimed wages’ (in part (c) below) arise when manufacturing employees are not present to collect their wages (when they are paid out in part (b)). The unclaimed wage packets are given to the cashier who records their details in the unclaimed wages book and is responsible for their custody. Any employee who has not received his/her wage packet at the pay-out can obtain it from the cashier. You have ascertained that there is no system of checking the operation of the unclaimed wages system by a person independent of the cashier and the wages department.
    Required:
  • (a) Describe the normal controls you would expect to see in a wages system and explain their purpose.
  • (b) Describe how you would verify that employees are not paid before they commenced work for the company.
  • (c) Describe the audit procedures you would carry out in connection with attending a pay-out of wages in cash to manufacturing employees.
  • (d) Describe the substantive procedures on transactions you would carry out on the unclaimed wages system.
  • (e) Describe the evidence you would obtain to verify the existence of employees whose wages are paid directly into their bank account, including those at sales offices.

 

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  • 30 Marks

AA – L2 – Q29 – Auditing in a Computerized Environment

List procedures for setting up customer files, price lists, and sales ledger balances in a new computerized system. Describe controls for transaction data input, customer file amendments, and product price changes in a computerized system. Describe procedures to ensure accuracy of transaction file data in a computerized sales ledger system.

Thompson Tools
Mr. Thompson, a client of your firm, is the managing director of Thompson Tools, which buys tools from large manufacturers and sells them to small retailers.
As the firm has been expanding, Mr. Thompson has recently purchased a computer. He has asked your advice about the controls which should be exercised over the computer when processing accounting data. Initially, Mr. Thompson is proposing to use the computer for producing sales invoices and maintaining the sales ledger.
The sales system data files will comprise:

  • a standing data file containing customer names, addresses, and credit limits and a price file containing the part numbers, descriptions, and selling prices of the company’s products
  • transaction files containing the outstanding transactions for each customer’s account, the values of individual invoices, credit notes, cash, discounts, and adjustments posted to the sales ledger in the month and the ageing and the total balance on each customer’s account.
    The system will operate as follows:
    The customer details, and the part numbers and quantities of the goods dispatched are input into the computer, which calculates the invoice value by accessing the standing data file. When the operator confirms that the invoice details have been input correctly, the computer prints the invoice and posts it to the sales ledger.
    Cash received and discounts are input into the system from the cash book, and they are matched to the invoices which are being paid.
    Credit notes and adjustments can be input directly into the sales ledger.
    At the end of the month, the computer prints:
  • a summary of the invoices, credit notes, adjustments, cash, and discounts posted to the sales ledger in the month;
  • an aged list of receivables; and
  • customer statements, which show the outstanding transactions at the end of the month.
    The computer has the facility to print out during the month the summaries as described above, and the details of any customer account.
    Required
    (a) List and describe the procedures which should be carried out in setting up the files containing:
    (i) the customer names, addresses, and credit limits;
    (ii) the price list of the products the company sells; and
    (iii) sales ledger balances which are to be transferred from the manual system to the new computer system.

(b) List and describe the controls which should be exercised over:
(i) the input of transaction data, to ensure the risk of misstatements is minimised and that there is no unauthorised input of transactions;
(ii) the amendment of standing data files containing customer names, addresses, and credit limits; AND
(iii) the amendment of the prices of the products the company sells.

(c) List and describe the procedures which should be carried out to ensure the accuracy of the transaction file data, which contains balances on customers’ accounts and the outstanding transactions making up those balances.

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  • 10 Marks

AA – L2 – Q28 – Internal Control Systems

Draft questions for an internal control questionnaire for a weekly cash wages system at a healthcare company.

28 Horizon Health Services
Horizon Health Services (HHS) has the following wages and salaries system for its 40 nurses who are paid weekly in cash.
Each employee fills in a record of nursing hours worked which is signed by one of two supervisors before being passed to the accounts department. The payroll clerk takes these details, and prepares the payroll, referring to the personnel records kept by the company secretary. The payroll clerk then requests a cheque for the weekly cash wages and prepares the pay packets which are distributed by the supervisors.
Required
Draft questions to be included in an internal control questionnaire for weekly wages paid in cash.

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  • 20 Marks

AA – L2 – Q27 – Risk Assessment and Internal Control

Identify five audit risks for Unity Football Club and explain auditor responses. Describe proof in total calculations for UFC’s ticket sales, loan interest, and payroll expenses. Explain three internal controls for UFC’s club shop or snack bars and their objectives.

You are the senior responsible for planning the audit of Unity Football Club Limited (UFC) for the year ended May 31, 2008.
UFC runs a football club which was promoted to the top division in the league this season. The football season starts on September 1 and ends on May 31 so that the players get a break over the summer months.
UFC own their football stadium which now has the capacity to seat 25,000 people. Of the 25,000 seats, 19,000 are allocated to UFC supporters (home supporters) and are sold to season ticket holders only. The remaining 6,000 tickets are for away supporters and cannot be sold to UFC supporters.
Season tickets cost GH¢260 for adults and GH¢175 for children. Following their recent promotion all the season tickets have been sold this year with 70% of season tickets sold to adults and the remaining 30% to children. Tickets for away supporters are always sold at GH¢20 per ticket regardless of whether the ticket is sold to an adult or a child. On average 50% of away supporter tickets have been sold for each of the 14 home games played at UFC’s stadium during the football season.
UFC’s other revenue streams include the sale of football kits and other memorabilia from the club shop, and food and drink sales from the club snack bars.
Following promotion to the top division, the club added an extra stand to the stadium to increase the seating capacity to the current level of 25,000. Other existing areas of the stadium also underwent maintenance in order to restore them to their original condition. The work was carried out during June and July, 2007 and cost a total of GH¢3,360,000. To finance this UFC took out a GH¢2,900,000 loan on June 1, 2007.
The loan carries an interest rate of 7% and is repayable over the next five years. The loan is secured on the stadium.
The directors feel that the club’s greatest assets (other than the stadium) are the football players themselves. The players have performed so well this year that some of the other football clubs in the same division have made preliminary offers to buy three of UFC’s players. UFC is particularly pleased about this as these players joined the club through their youth academy programme. Consequently the directors would like to value these three players as intangible non-current assets in UFC’s financial statements. The players will be valued at the offer price received from the other clubs. The directors feel this is a prudent valuation because they are confident that the eventual selling price would be much higher than the preliminary offer.
One of the major drawbacks of the club’s promotion has been that the club has had to increase the level of players’ salaries. The total salary expense for the year is estimated to be in the region of GH¢2,800,000. This is a particularly surprising figure as it is higher than the other operating costs for the year which are estimated at GH¢2,400,000.
UFC has just appointed a team of internal auditors. They have not been in position long enough to help you with your audit work but the directors are keen for the internal auditors to improve the company’s internal controls in relation to the club shop and snack bars.

Required:
(a) Using the information provided, describe FIVE (5) audit risks and explain the auditor’s response to each risk in planning the audit of UFC.

(b) Describe how the auditor could perform a proof in total calculation to confirm each of UFC’s revenue from ticket sales, loan interest and payroll expense for players’ salaries.

(c) Explain THREE (3) internal controls the internal auditors of UFC should implement relating to the club shop or snack bars, and state the objective of each of the three controls.

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