ACCA AA Syllabus C. Internal Control - How Auditors Identify Deficiencies - Past Papers ^{2 / 3}

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.

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.

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.

Required:
(a) In respect of the internal control of Baggio International Co:

(iii) Describe a test of control Suarez & Co would perform to assess whether each of these controls, if implemented, is operating effectively.

Note: The total marks will be split equally between each part. (18 marks)

Pear International Co (Pear) 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 2012. You are an audit supervisor of Apple & Co and are currently reviewing documentation of Pear’s internal control in preparation for the interim audit.

Pear’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.

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.

Pear 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.

Pear’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.

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 Pear 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.

Required:

In respect of the internal control of Pear International Co:

(i) Identify and explain FIVE deficiencies;

(ii) Recommend a control to address each of these deficiencies; and

(iii) Describe a test of control Apple & Co would perform to assess if each of these controls is operating effectively. (15 marks)

Auditors have a responsibility under ISA 265 Communicating Deficiencies in Internal Control to those Charged with Governance and Management, to communicate deficiencies in internal controls. In particular SIGNIFICANT deficiencies in internal controls must be communicated in writing to those charged with governance.

Required:

Explain examples of matters the auditor should consider in determining whether a deficiency in internal controls is significant. (5 marks)

Introduction – audit firm

You are an audit senior in Brennon & Co, a firm providing audit and assurance services. At the request of an audit partner, you are preparing the audit programme for the income and receivables systems of Seeley Co.

Audit documentation is available from the previous year’s audit, including internal control questionnaires and audit programmes for the despatch and sales system. The audit approach last year did not involve the use of computer-assisted audit techniques (CAATs); the same approach will be taken this year. As far as you are aware, Seeley’s system of internal control has not changed in the last year.

Client background – sales system

Seeley Co is a wholesaler of electrical goods such as kettles, televisions, MP3 players, etc. The company maintains one large warehouse in a major city. The customers of Seeley are always owners of small retail shops, where electrical goods are sold to members of the public. Seeley only sells to authorised customers; following appropriate credit checks, each customer is given a Seeley identification card to confirm their status. The card must be used to obtain goods from the warehouse.

Despatch and sales system

The despatch and sales system operates as follows:

1. Customers visit Seeley’s warehouse and load the goods they require into their vans after showing their Seeley identification card to despatch staff.

2. A pre-numbered goods despatch note (GDN) is produced and signed by the customer and a member of Seeley’s despatch staff confirming goods taken.

3. One copy of the GDN is sent to the accounts department, the second copy is retained in the despatch department.

4. Accounts staff enter goods despatch information onto the computerised sales system. The  GDN is signed.

5. The computer system produces the sales invoice, with reference to the inventory master file for product details and prices, maintains the sales day book and also the receivables ledger. The receivables control account is balanced by the computer.

6. Invoices are printed out and sent to each customer in the post with paper copies maintained in the accounts department. Invoices are compared to GDNs by accounts staff and signed.

7. Paper copies of the receivables ledger control account and list of aged receivables are also available.

8. Error reports are produced showing breaks in the GDN sequence.

Information on receivables

The chief accountant has informed you that receivables days have increased from 45 to 60 days over the last year. The aged receivables report produced by the computer is shown below:

In view of the deteriorating receivables situation, a direct confirmation of receivables will be performed this year.

Required:

Explain the steps necessary to check the accuracy of the previous year’s internal control questionnaires.