ACCA AA Syllabus C. Internal Control - Revenue (Sales Cycle) - Past Papers ^{2 / 7}

Heraklion Co is a manufacturer of footballs and is a new audit client for your firm. You are an audit supervisor of Spinalonga & Co and are currently preparing for the forthcoming interim and final audit for the year ending 31 October 20X6. You are required to document and assess the sales system, recommend control improvements to deal with a specific fraud issue as well as undertake substantive testing of revenue.

Sales ordering, goods despatched and invoicing
Heraklion Co sells footballs to a range of large and small sports equipment retailers in several countries. Sales are made through a network of sales staff employed by Heraklion Co, but new customer leads are generated through a third party company. Sales staff are responsible for assessing new customers’ creditworthiness and proposing a credit limit which is then authorised by the sales director. The sales staff have monthly sales targets and are able to use their discretion in granting sales discounts up to a maximum of 10%. They then record any discount granted in the customer master data file.

The sales staff visit customer sites personally and orders are completed using a two-part pre-printed order form. One copy is left with the customer and the other copy is retained by the sales person. The sales order number is based on the sales person’s own identification (ID) number.

The company markets itself on being able to despatch all orders within three working days. Once the order is taken, the sales person emails the finance department and warehouse despatch team with the customer ID and the sales order details and from this a pick list is generated. Sequentially numbered goods despatched notes are completed and filed in the warehouse.

Sequentially numbered invoices are generated using the pick lists for quantities and the customer master data file for prices. Standard credit terms for customers are 30 days and on a monthly basis sales invoices which are over 90 days outstanding are notified to the relevant sales person to chase payment directly with the customer.

Payroll fraud
The finance director, Montse Mirabelle, has informed you that a significant fraud took place during the year in the payroll department. A number of fictitious employees were set up on the payroll and wages were paid into one bank account. This bank account belonged to two supervisors, who were married, and were employed by Heraklion Co.

One had sole responsibility for setting up new joiners in the payroll system and the other processed and authorised bank transfer requests for wages and supplier payments. These employees no longer work for the company and Montse has asked the audit firm for recommendations on how to improve controls in this area to prevent this type of fraud occurring again. Heraklion Co operates a Human Resources department.

Required:
(b) Identify and explain SEVEN deficiencies in the sales system of Heraklion Co and provide a recommendation to address each of these deficiencies.

Note: Prepare your answer using two columns headed Control deficiency and Control recommendation respectively. (14 marks)

Which TWO of the following controls of a sales system ensure that all goods despatched are completely and accurately invoiced?

(1) Good despatched notes are matched to sales invoices
(2) Sales invoices are sequentially numbered
(3) Sales invoices are matched to customer orders
(4) Regular review of unfulfilled orders

A. 1 and 2
B. 2 and 4
C. 2 and 3
D. 1 and 4

Hummingbird Scents Co (Hummingbird) manufactures and sells luxury toiletries; they have been trading for over 20 years and the company’s year end is 30 September 2014. Hummingbird sells products to trade customers via its own website; this represents 60% of revenue. Remaining revenue is generated by contracts to supply toiletries to hotels. Below is a description of the sales system.

Hotel revenue
The hotel revenue is made up of four key customers. Hummingbird has one sales clerk, Brenda, who maintains all aspects of this revenue stream; Brenda receives customer orders, raises sales invoices and processes payments. In raising invoices, the sales system automatically inserts the online trade customer prices for products. However, each hotel customer has contracted prices which are lower than the online prices and hence Brenda manually edits the invoices prior to despatch.

Online revenue
New trade customers are set up in the sales ledger master file upon passing suitable credit checks, and a credit limit is set at this stage by the finance director. Customers place online orders up to their pre-set credit limit; they receive an email confirmation and the sales order interfaces into the despatch system. The order number is linked to the customer account number. Goods are despatched daily with a goods despatched note which is referenced to the sales order number but are not sequentially numbered. Hummingbird used to despatch goods via a reliable national courier company. However, to reduce costs they have changed to a cheaper local courier and some orders have been delivered to customers late.

Trade customers’ sales invoices are automatically generated by the system on the day the online order is placed. The prices are inserted in accordance with the website rates. Occasionally Hummingbird makes special offers or discounts sales; when this occurs the master file data has to be amended to ensure that the correct prices are used on invoices. This task is usually performed by a senior sales ledger clerk.

Revenue and receivables records
On a monthly basis statements are sent to the hotel customers; a number of trade customers have been requesting monthly statements and Hummingbird is considering this request. The company only reconciles the sales ledger
control account at the end of September in order to verify the year-end balance.

Required:
(a) As the external auditor of Hummingbird Co, write a report to management in respect of the sales system described above which:

A covering letter IS required.

Note: Up to two marks will be awarded within this requirement for presentation and the remaining marks will be split equally between each part. (16 marks)

You are a member of the recently formed internal audit department of Oregano Co (Oregano). The company manufactures tinned fruit and vegetables which are supplied to large and small food retailers.

Management and those charged with governance of Oregano have concerns about the effectiveness of their sales and despatch system and have asked internal audit to document and review the system.

Sales and despatch system

Sales orders are mainly placed through Oregano’s website but some are made via telephone. Online orders are automatically checked against inventory records for availability; telephone orders, however, are checked manually by order clerks after the call.

A follow-up call is usually made to customers if there is insufficient inventory. When taking telephone orders, clerks note down the details on plain paper and afterwards they complete a three part pre-printed order form. These order forms are not sequentially numbered and are sent manually to both despatch and the accounts department.

As the company is expanding, customers are able to place online orders which will exceed their agreed credit limit by 10%. Online orders are automatically forwarded to the despatch and accounts department.

A daily pick list is printed by the despatch department and this is used by the warehouse team to despatch goods. The goods are accompanied by a despatch note and all customers are required to sign a copy of this.

On return, the signed despatch notes are given to the warehouse team to file.

The sales quantities are entered from the despatch notes and the authorised sales prices are generated by the invoicing system. If a discount has been given, this has to be manually entered by the sales clerk onto the invoice.

Due to the expansion of the company, and as there is a large number of sale invoices, extra accounts staff have been asked to help out temporarily with producing the sales invoices. Normally it is only two sales clerks who produce the sales invoices.

Required:

List TWO control objectives of Oregano Co’s sales and despatch system. (2 marks)

You are a member of the recently formed internal audit department of Oregano Co (Oregano). The company manufactures tinned fruit and vegetables which are supplied to large and small food retailers.

Management and those charged with governance of Oregano have concerns about the effectiveness of their sales and despatch system and have asked internal audit to document and review the system.

Sales and despatch system

Sales orders are mainly placed through Oregano’s website but some are made via telephone. Online orders are automatically checked against inventory records for availability; telephone orders, however, are checked manually by order clerks after the call.

A follow-up call is usually made to customers if there is insufficient inventory. When taking telephone orders, clerks note down the details on plain paper and afterwards they complete a three part pre-printed order form. These order forms are not sequentially numbered and are sent manually to both despatch and the accounts department.

As the company is expanding, customers are able to place online orders which will exceed their agreed credit limit by 10%. Online orders are automatically forwarded to the despatch and accounts department.

A daily pick list is printed by the despatch department and this is used by the warehouse team to despatch goods. The goods are accompanied by a despatch note and all customers are required to sign a copy of this.

On return, the signed despatch notes are given to the warehouse team to file.

The sales quantities are entered from the despatch notes and the authorised sales prices are generated by the invoicing system. If a discount has been given, this has to be manually entered by the sales clerk onto the invoice.

Due to the expansion of the company, and as there is a large number of sale invoices, extra accounts staff have been asked to help out temporarily with producing the sales invoices. Normally it is only two sales clerks who produce the sales invoices.

Required:

Identify and explain SIX deficiencies in Oregano Co’s sales and despatch system and provide a recommendation to address each of these deficiencies. (12 marks)

Introduction

Tinkerbell Toys Co (Tinkerbell) is a manufacturer of children’s building block toys; they have been trading for over 35 years and they sell to a wide variety of customers including large and small toy retailers across the country. The company’s year end is 31 May 2011.

The company has a large manufacturing plant, four large warehouses and a head office. Upon manufacture, the toys are stored in one of the warehouses until they are despatched to customers. The company does not have an internal audit department.

Sales ordering, goods despatched and invoicing

Each customer has a unique customer account number and this is used to enter sales orders when they are received in writing from customers. The orders are entered by an order clerk and the system automatically checks that the goods are available and that the order will not take the customer over their credit limit.

For new customers, a sales manager completes a credit application; this is checked through a credit agency and a credit limit entered into the system by the credit controller. The company has a price list, which is updated twice a year. Larger customers are entitled to a discount; this is agreed by the sales director and set up within the customer master file.

Once the order is entered an acceptance is automatically sent to the customer by mail/email confirming the goods ordered and a likely despatch date. The order is then sorted by address of customer. The warehouse closest to the customer receives the order electronically and a despatch list and sequentially numbered goods despatch notes (GDNs) are automatically generated.

The warehouse team pack the goods from the despatch list and, before they are sent out, a second member of the team double checks the despatch list to the GDN, which accompanies the goods.

Once despatched, a copy of the GDN is sent to the accounts team at head office and a sequentially numbered sales invoice is raised and checked to the GDN. Periodically a computer sequence check is performed for any missing sales invoice numbers.

Fraud

During the year a material fraud was uncovered. It involved cash/cheque receipts from customers being diverted into employees’ personal accounts. In order to cover up the fraud, receipts from subsequent unrelated customers would then be recorded against the earlier outstanding receivable balances and this cycle of fraud would continue.

The fraud occurred because two members of staff ‘who were related’ colluded. One processed cash receipts and prepared the weekly bank reconciliation; the other employee recorded customer receipts in the sales ledger.

An unrelated sales ledger clerk was supposed to send out monthly customer statements but this was not performed. The bank reconciliations each had a small unreconciled amount but no-one reviewed the reconciliations after they were prepared.

The fraud was only uncovered when the two employees went on holiday at the same time and it was
discovered that cash receipts from different customers were being applied to older receivable balances to hide the earlier sums stolen.

Required:

Recommend SIX tests of controls the auditor would normally carry out on the sales system of Tinkerbell, and explain the objective for each test. (12 marks)

Redburn Co, a publisher and producer of books of poetry, has been a client of your fi rm of Chartered Certified Accountants for a number of years. The manager in overall charge of the audit has been discussing the audit plan with the audit team, of which you are a member, prior to commencement of the work.

The audit manager has informed the team, among other things, that there has been a growing interest in poetry generally and that the company has acquired a reputation for publishing poets who are still relatively unknown.

During your audit you determine:

(i) Contracts with the poets state that they are given a royalty of 10% on sales. Free copies of the books are provided to the poets and to some organisations such as copyright libraries and to others, such as reviewers and university lecturers. No royalties are given on these free copies.

(ii) The computerised customer master fi le contains a code indicating whether a despatch is to earn a royalty for the author. This code is shown on the sales invoice and despatch note when they are prepared.

(iii) A computerised royalties fi le is held, all entries therein bearing the invoice number and date.

(iv) The company keeps detailed statistics of sales made, including trends of monthly sales by type of customer, and of colleges where its books are recommended as part of course material, based on reports from sales staff.

(v) Bookshops have the right to return books which are not selling well, but about 10% of these are slightly damaged when returned. The company keeps similar records of returns as it does for sales.

Required:

Describe TWO procedures used to ensure that the sales statistics kept by the company may be relied upon.  (4 marks)

Background information

B-Star is a theme park based on a popular series of children’s books. Customers pay a fixed fee to enter the park, where they can participate in a variety of activities such as riding roller-coasters, playing on slides and purchasing themed souvenirs from gift shops.

The park is open all year and has been in operation for the last seven years. It is located in a country which has very little rainfall – the park is open-air so poor weather such as rain results in a significant fall in the number of customers for that day (normally by 50%). During the last seven years there have been on average 30 days each year with rain.

B-Star is now very successful; customer numbers are increasing at approximately 15% each year.

Cash sales

1. All ticket sales are recorded on a computer showing the amount of each sale and the number of tickets issued. This information is transferred electronically to the accounts office.

2. Cash is collected regularly from each ticket office by two security guards. The cash is then counted by two accounts clerks and banked on a daily basis.

3. The total cash from each ticket office is agreed to the sales information that has been transferred from each office.

4. Total cash received is then recorded in the cash book, and then the general ledger.

Credit card sales

1. Payments by credit cards are authorised online as the customers purchase their tickets.

2. Computers in each ticket office record the sales information which is transferred electronically to the accounts office.

3. Credit card sales are recorded for each credit card company in a receivables ledger.

4. When payment is received from the credit card companies, the accounts clerks agree the total sales values to the amounts received from the credit card companies, less the commission payable to those companies. The receivables ledger is updated with the payments received.  
You are now commencing the planning of the annual audit of B-Star. The date is 3 June 2009 and B-Star’s year end is 30 June 2009.

Required:

For the cash sales system of B-Star, identify the risks that could affect the assertion of completeness of sales and cash receipts; (4 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:

Using information from the scenario, list six tests of control that an auditor would normally carry out on the despatch and sales system at Seeley Co and explain the reason for each test. (12 marks)