7.5 Flashcards
A client’s materials purchasing cycle begins with requisitions from user departments and ends with the receipt of materials and the recognition of a liability. An auditor’s primary objective in reviewing this cycle is to
Evaluate the reliability of information generated by the purchasing process.
The auditor should obtain an understanding of internal control. The purpose of internal control is to address business risks that threaten the achievement of the following entity objectives: (1) reliability of financial reporting, (2) effectiveness and efficiency of operations, and (3) compliance with laws and regulations (AU-C 315).
Your objective is to determine that nonrecurring purchases, initiated by various user organizations, have been properly authorized. If all purchases are made through the purchasing department, to which of the following documents should you vouch purchases?
Purchase requisitions.
When the auditor tests for unauthorized nonrecurring purchases, (s)he should vouch purchases to the purchase requisitions. The initiating authorization by the user department is embodied in a properly authorized purchase requisition.
For several years a client’s physical inventory count has been lower than what was shown on the books at the time of the count, and downward adjustments of the inventory account have been required. Contributing to the inventory problem could be material weaknesses in internal control that led to the failure to record some
Purchases returned to vendors.
Purchases returned to the vendor but not recorded overstate inventory records. The goods are reflected in inventory but are not on hand.
An auditor notes year-to-year increases of over $200,000 for small tool expense at a manufacturing facility that has produced the same amount of identical product for the last 3 years. Production inventory is kept in a controlled staging area adjacent to the receiving dock, but the supply of small tools is kept in an unsupervised area near the exit to the plant employees’ parking lot. After determining that all of the following alternatives are equal in cost and are also feasible for local management, the auditor can best address the security issue by recommending that plant management
Move the small tools inventory to the custody of the production inventory staging superintendent and implement the use of a special requisition to issue small tools.
Physical control of assets is a preventive control that reduces the likelihood of theft or other loss. Giving responsibility for custody of small tools to one individual establishes accountability. Requiring that requisitions be submitted ensures that tool use is properly authorized.
In obtaining an understanding of a manufacturing entity’s internal control concerning inventory balances, an auditor most likely would
Review the entity’s descriptions of inventory policies and procedures.
The auditor makes inquiries of personnel, observes activities and operations, and reviews an entity’s documentation of controls relevant to the management of inventories to obtain an understanding of internal control.
In determining the effectiveness of an entity’s policies and procedures relating to the existence or occurrence assertion for payroll transactions, an auditor most likely would inquire about and
Observe the segregation of duties concerning human resources responsibilities and payroll disbursement.
In considering whether transactions actually occurred, the auditor is most concerned about the proper segregation of duties between the human resources department (authorization) and the payroll disbursement (custody function).
Based on observations made during an audit, the auditor should discuss with management the effectiveness of the company’s controls that protect against the purchase of
Supplies individually ordered, without considering possible volume discounts.
An auditor should communicate to management and those charged with governance significant deficiencies and material weaknesses observed during an audit (AU-C 265). (S)he should discuss procedures that permit the avoidable loss of assets. Thus, an auditor should determine whether the failure to consider possible volume discounts is due to fraud or error.
The purpose of segregating the duties of hiring personnel and distributing payroll checks is to segregate the
Authorization of transactions from the custody of related assets.
In principle, the payroll function should be divided into its authorization, recording, and custody functions. Authorization of hiring, wage rates, and deductions is provided by human resources. Authorization of hours worked (executed by employees) is provided by production. Based upon these authorizations, accounting calculates and records the payroll. Based on the calculated amounts, the CFO prepares and distributes payroll checks.
A receiving department receives copies of purchase orders for use in identifying and recording inventory receipts. The purchase orders list the name of the vendor and the quantities of the materials ordered. A possible error that this system could allow is
Overpayment for partial deliveries.
To ensure a fair count, the copy of the purchase order sent to the receiving clerk should not include quantities. The receiving clerk should count the items in the shipment and prepare a receiving report. Copies are sent to inventory control and accounts payable.
To minimize the risk that agents in the purchasing department will use their positions for personal gain, the organization should
Require competitive bidding.
The primary function of a purchasing department is to ensure the authorized acquisition of goods of a specified quality on a timely basis at an economical price. Competitive bidding procedures should reduce both costs and the likelihood that a purchasing agent will show favoritism to a vendor.
Which of the following questions would most likely be included in an internal control questionnaire concerning the completeness assertion for purchases?
Are purchase orders, receiving reports, and vouchers prenumbered and periodically accounted for?
The completeness assertion concerns whether all transactions and accounts that should be presented are so included. Thus, management asserts that all purchases are recorded and included in the accounts. A standard control related to the completeness assertion for purchases is the use of prenumbered documents. Items missing from the numerical sequence may represent unrecorded transactions and accounts.
In the audit of which of the following types of profit-oriented enterprises is the auditor most likely to place special emphasis on testing the controls over proper classification of payroll transactions?
A manufacturing organization.
A manufacturer is characteristically labor intensive with a high frequency and volume of payroll transactions requiring classification into direct labor and overhead. Payroll information is important in the costing of work-in-process, finished goods inventory, and cost of goods sold.
Which of the following questions would an auditor most likely include on an internal control questionnaire for notes payable?
Are direct borrowings on notes payable authorized by the board of directors?
Control is enhanced when different persons or departments authorize, record, and maintain custody of assets for a class of transactions. Authorization of notes payable transactions is best done by the board of directors.
In manufacturing environments, employees are often required to use time cards and job time tickets. Which is the false statement related to the use of these documents?
Payroll should be prepared from job time tickets.
The payroll should be prepared from the time cards, which are the official records of time worked. The allocation of direct labor to the various jobs and the identification of indirect labor that should be charged to overhead is determined from the job time tickets.
Which of the following organizational controls related to the processing of scrap would you recommend?
Segregate the responsibility for processing scrap materials from the operational activities that produce the scrap materials.
Organizational controls address the segregation of functional responsibilities: custodianship, recordkeeping, authorization, and execution. Thus, those who generate the scrap should not subsequently process it.
