INTERNALCONTROLSECTION 9.ppt

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1、INTERNAL CONTROLSECTION 9,Internal Control: Principles and Concepts,The clients system of internal is an important factor in an audit engagementThe study of internal control often represents a significant part of field workWe will examine:Basic considerations Meeting the second standard of GAAS,ST.

2、CATHARINES: Former stock broker Stan Magda has been jailed for contempt of court for refusing to say what happened to the $2 million his wife stole from the St. Catharines Standard.Ontario Superior Court Justice Linda Walters sentenced the 59-year-old self described house husband to five says in jai

3、l yesterday and gave him until Sep. 7 to account for the money his wife stole from her employer.Lucy Magda, 62, was sentenced to 34 months in penitentiary last July for embezzling $2.2 million over a five-year period while she was running the classified ad department at The Standard. She is now livi

4、ng in a half-way house in Dundas.Once considered a trusted employee, she stuffed up to $6,000 a day in her handbag and covered her tracks by destroying or doctoring the paper trail. She was caught and immediately fired in the spring of 1997 after a temporary employee she had berated discovered discr

5、epancies in the books.She and her husband, who was no longer working, were both charged with theft related charges in1997. But the charges against Stan were dropped in January 2004, after she pleaded guilty to theft over $5,000.The St. Catharines Standard had earlier won a $2.3 million civil judgmen

6、t that held the couple jointly responsible for the missing funds. The case has dragged on in the courts for almost eight years with lawyers for the paper pressing the pair to account for the money.During the theft investigation, Niagara police found what s detective described as an “Aladdins cave” o

7、f stolen booty in the couples modest Thorold home. Police tallied about $1,170,000 worth of items, including hundreds of pairs of shoes and rooms full of unworn clothing that still had price tags.They also found about $470,000 in cash stashed in the house and several hundred thousands in numerous ba

8、nk accounts under aliases. Lucy had never earned more than $48,000 a year.When asked about the money during pre-trial discoveries, Lucy told The Standards lawyer Peter Mahoney her late father had won the $470,000 while gambling with his buddies in the 1960s, according to court documents.She said her

9、 father, who died in 1975, told her to keep the money in the house until it was sold. She also claimed her dad had given her money to go shopping. The Hamilton Spectator, Wednesday, June 22, 2005.,What is Internal Control?,Remember the second examination standardCICA 5200 Those policies and procedur

10、es established and maintained by management that affect control risk relating to specific financial statement assertions at the account balance or class of transaction levelComprises of the entitys control environment and control systems installed by management,Two subdivision of internal controlAdm

11、inistrative controlsThe plan of the organization and the procedures and records concerned with the decision processAlso includes statistical analyses, time and motion studies, performance reports, and quality controlsSome administrative controls do have an impact on accounting records,Accounting con

12、trolsThe plan of the organization and the procedures and records concerned with safeguarding of assetsDesigned to provide reasonable assurance that:Transactions are authorizedTransaction recorded in conformity with?Access to assets is authorizedRecorded accountability for assets is compared to exist

13、ing records,Managements Objectives for Internal Control,Managements responsibilityObjectives should include: Discharge of statutory responsibilities Profitability and cost minimization Prevention and detection of fraud and error Safeguarding of assets Reliability of accounting records Timely prepara

14、tion of reliable financial information,Internal Control Environment,A good internal control environment complements prescribed control proceduresShould include: Management leadership Organizational structure Budgets and internal reports Internal auditing Reliable personnel Sound practices Company ci

15、rcumstances,Internal Accounting Control Principles,Classified as preventative, detective, or correctivePreventative controls are used prior to or during the authorization, physical event, or recording of the transactionDetective controls are utilized after the transaction has occurred or been record

16、ed,Major Categories of ControlsAuthorization ProceduresThe purpose is to ensure that transactions are authorized by management personnel acting within the scope of their authorityAuthorizations may be routine or non-routineAuthorization procedures are also important in limiting access to assets,Segr

17、egation of DutiesIt is important for an entity to segregate the authorization of transactions, recording of transaction, and custody of related assets.Independent performance of each of these functions reduces the opportunity for any one person to be in a position to both perpetrate and conceal erro

18、rs or fraudDifferent departments and individualsSmall companies?,Documentation ProceduresProvides evidence of occurrenceSigning or stamping documentsPrenumbered documentsChart of accountsAccounting procedures that relate to timely processing,Access to Assets and RecordsPhysical precautionsData proce

19、ssingPhysical controlsAccess controlsBackup and recovery,Independent Internal VerificationReviewing the accuracy and propriety of an employees work by another employeeWho performs the task?How often?Errors and exceptions?,Meeting the Second Examination Standard,A sufficient understanding of internal

20、 control should be obtained to plan the audit. When control risk is assessed below maximum, sufficient appropriate audit evidence should be obtained through tests of controls to support the assessment.Reliance on internal controlIf internal control is not tested, at what level is control risk set?,O

21、bjectives and Scope of the StandardInternal controls can change significantly from year to yearSufficient understanding of internal controlAppropriate audit evidenceRelationship between reliance on internal control and the amount of substantive audit work needed,Methodology for the Study of Internal

22、 ControlTwo closely related parts:A review of the systemTests of controls,Planning PhaseThe minimum study contemplated by the second examination standardGeneral knowledgeAt the conclusion, the auditor must decide, for each major class of transactions, whether to continue or terminate the review,Stud

23、y PhaseThe auditor obtains specific knowledge and understanding of the clients prescribed control proceduresGathering informationVerifying the understandingPreliminary evaluationGathering InformationObtaining the information,Generally information is organized according to one of the following approa

24、ches:Transaction cyclesFinancial Statement classificationBusiness function,QuestionnairesA series of questions relating to control procedures required to prevent and detect errors and irregularities,Prepared by: ILA Date: 9/8/200X,FlowchartsSeparate flowcharts are prepared for each major class of tr

25、ansactionsNarrativesWritten comments by the auditor about the system,Verifying the UnderstandingReinforces the understanding of the information gatheredTransaction walkthroughMaking a Preliminary EvaluationRely on internal?Which internal controls?Substantive auditing procedures necessary due to weak

26、ness in internal control,When is internal control considered reliable?When there is no planned reliance on a internal control procedureCommunication to managementA material weakness exists when there more than a relatively low risk that error or fraud would have a material effect on the financial st

27、atementsAt what percentage?,Tests of Controls,Performed in order to obtain reasonable assurance that the controls expected to be relied upon are in use and operating as planned throughout the period of relianceNature of Test of ControlsConcerned with four questions:Were the procedures performed? How

28、? By whom? Throughout the period,The failure to perform a required procedure or the failure to perform it properlyCICA 5215Document inspectionInquiry and observationAlso reperformance,Assume that in the billing department, a second clerk must independently verify the correctness of unit selling pric

29、es on invoices by comparing the price to an authorized price listWhat would be the evidence of this control?In testing compliance by reperformance?Each instance of the use of incorrect prices would be regarded as an exceptionExtent and TimingThroughout the accounting period being audited,An example

30、of Tests of ControlsCampus Theatre cash receipts scenario,Final Evaluation of Controls,On completion of the tests of controlsNature of the EvaluationWeaknesses affecting different classes of transactions do not offset each otherThe number of exceptions may be of such magnitude to doubt that the cont

31、rol procedure can be relied on,The auditor should look at what was the underlying cause of the exceptionIn some cases you might expect some exceptionsIt is essential to attempt to see if the exception was caused by an errorFraud?,Purpose of the EvaluationTo determine the extent to which the clients

32、controls can be relied on in performing substantive testsThree level of riskLowMediumHigh,To what is the final evaluation directed?Should be documented in the working papersStrengthsWeaknessesEffects on substantive testsCommunication to management,Prepared by: ILA Date: 9/15/200X Campus Theatre Eval

33、uation of Internal Control Over Cash Receipts December 31, 200XStrengths All of the controls on which reliance is planned were tested for compliance. These controls were found to be functioning as planned. In my judgment, the control risk associated with these controls is low.Weaknesses Cash is depo

34、sited in the bank only once a week. This procedure is not satisfactory for good internal control.Effect on Substantive Tests For controls in which control risk is low, the planned audit program should be implemented. For the control over depositing cash, the substantive tests should be extended.Mana

35、gement Communication Indicate that the failure to deposit cash intact daily also makes cash vulnerable to theft. Suggest that the manager make daily deposits using the banks night depository vault.,Determining Effects on Substantive Tests,The second examination standard does not permit complete reli

36、ance on internal controlThe auditor relies on internal control to reduce control risk, and substantive tests to reduce detection riskReliance on internal control may affect the nature, timing, and extent of substantive tests.,NatureThe type of auditing procedure to be performedFor the verification o

37、f sales transactionsFor a low risk of errors in sales transactions as demonstrated by tests of controlsFor a high risk of errors,TimingThe time when the testing is doneWhen there is a low risk of errors in processing sales transactionsWhen the risk of errors is high,ExtentThe amount of substantive t

38、esting to be performedWhen the risk of errors in processing sales transaction is lowWhen the risk is high,Internal Control Letter to Management,It is important that the auditor communicate any awareness of significant weaknesses in internal control to managementInternal control letterCommunication s

39、hould be made at the earliest practicable date to the appropriate official,Problem 1: Distinguish between a substantive approach and a combined approach in auditing a financial statement assertion.,Problem 2: The following are errors or fraud and other irregularities that have occurred in Fresh Food

40、s Grocery Store Ltd., a wholesale and retail grocery company. The incorrect price was used on sales invoices for billing and shipments to customers because the wrong price was entered into a computer file. A vendors invoice was paid twice for the same shipment. The second payment arose because the v

41、endor sent a duplicate copy of the original two weeks after payment was due. Employees in the receiving department took sides of beef for their personal use. When a shipment of meat was received, the receiving department filled out a receiving report and forwarded it to the accounting department for

42、 the amount of goods actually received. At the time, two sides of beef were put in an employees pickup truck rather than in the storage freezer. During the physical count of inventory of the retail grocery, one counter wrote down the wrong description of several products and miscounted the quantity.

43、 A salesperson sold an entire carload of lamb at a price below cost because she did not know the cost of lamb had increased in the past week. On the last day of the year, a truckload of beef was set aside for shipment but was not shipped. Because it was still on hand, it was counted as inventory. Th

44、e shipping document was dated the last day of the year so it was also included as a current-year sale.,Required: For each error or fraud and other irregularity, identify one or more types of controls that were absent. For each error or fraud or other irregularity, identify the objectives that have n

45、ot been met. For each error or fraud and other irregularity, suggest a control to correct the deficiency.,Problem 3: Recently, while eating lunch with some friends at a cafeteria at your university, you observe a practice that is somewhat unusual. As you reach the end of the cafeteria line, a server

46、 asks how many persons are in your party. He then totals the food purchases on the trays for all of your party and writes the number of persons included in the group on your bill. He hands you the bill and asks you to pay when you finish eating. Near the end of the meal, you decide you want a piece

47、of pie and coffee so you return to the line, select your food, and again go through the line. The server goes through the same procedures, but this time he staples the second bill to the original and returns it to you.When you leave the cafeteria, you hand the stapled bills to the cashier, who total

48、s the two bills, takes your money, and puts the bills on a spindle. Required: What internal controls has the cafeteria instituted for its operations? How can the manager of the cafeteria evaluate the effectiveness of the controls? How do these controls differ from those used by fast-food outlets? Wh

49、at are the costs and benefits of the cafeterias system?,Problem 4: Lew Pherson and Marie Violette are friends who are employed by different public accounting firms. One day during lunch they are discussing the importance of internal controls in determining the amount of audit evidence required for a

50、n engagement. Pherson expresses the view that internal controls must be carefully evaluated in all companies, regardless of their size, in basically the same manner. His public accounting firm requires a standard internal control questionnaire on every audit as well as a flowchart of every transacti

51、on area. In addition, he says the firm requires a careful evaluation of the system and a modification in the evidence accumulated based on the controls and weaknesses in the system.Violette responds by saying she believes internal control cannot be adequate in many of the small companies she audits

52、although she recognizes that the CICA Assurance Handbook requires her to obtain a sufficient understanding.” She disagrees with the Handbook Recommendations and goes on to say, “Why should I spend a lot of time obtaining an understanding of internal control and assessing control risk when I know it

53、has all kinds of weaknesses before I start? I would rather spend the time it takes to fill out all those forms in testing whether the statements are correct.” Required: Express in general terms the most important difference between the nature of the potential controls available for large and small companies. Criticize the positions taken by Pherson and Violette, and express your own opinion about the similarities and differences that should exist in understanding internal control and assessing control risk for different-sized companies.,