Internal Control - Transaction Cycles

Question 1

List the 3 categories of incompatible functions associated with segregations of duties.

Answer 1

1. Authorization of transactions (execution function);
2. Accounting (recordkeeping function);
3. Access to assets (custody function).

Question 2

List some examples of major transaction cycles.

Answer 2

1. Revenue/receipts;
2. Expenditures/disbursements;
3. Payroll;
4. Inventory (especially for manufactured inventory);
5. Fixed assets;
6. Investing/financing.

Question 3

Why do auditors emphasize transaction cycles?

Answer 3

Control risk is generally constant within a particular category of transactions as all transactions are processed the same way. So, the transaction cycle is the highest level of aggregation for which control risk may be viewed as a constant.

Question 4

What is meant by the term transaction cycle.

Answer 4

A group of essentially homogeneous transactions, that is, transactions of the same type.

Question 5

Identify the objectives of internal control related to revenue/receipts (sales transactions).

Answer 5

1. Goods and services provided in accordance with management’s orders
2. Terms of sale are in accordance with management’s orders
3. Credit terms and limits are properly established
4. Deliveries of goods and services result in accurate and timely billings
5. Sales discounts and billings are in accordance with management’s authorization.

Question 6

How should employee responsibilities be allocated to facilitate a proper segregation of duties in the revenue/receipts (sales transactions) cycle?

Answer 6

1. Independent employee should review customer statements
2. Credit to customers is granted by independent department
3. Returns are accounted for by independent clerk in shipping/receiving area.

Question 7

List 2 access controls applicable to the revenue/receipts (sales transactions) business process.

Answer 7

1. Computer passwords limit access
2. Cash receipts are handled by someone without access to accounts receivable record keeping

Question 8

Identify the key accounting documents in the revenue/receipts (sales) transaction cycle, each of which should be pre-numbered.

Answer 8

1. Sales invoices;
2. Shipping documents for outbound shipments;
3. Receiving documents for inbound shipments including sales returns.

Question 9

Describe management’s role in the execution of transactions controls in revenue/receipts (sales).

Answer 9

1. Management should review terms of sale and note approval.
2. Management should establish general approval of sales within certain limits and specifically approve sales over those limits.
3. Management should approve all adjusting journal entries.

Question 10

List the internal control objectives related to the Cash Receipts business cycle.

Answer 10

1. Access to cash receipts records and accounts receivable records is limited to authorized personnel
2. Detailed cash and account balance records are reconciled with control accounts and bank statements monthly
3. All cash receipts are recorded in period received.

Question 11

List some procedures used to ensure segregation of duties in the Cash Receipts business cycle.

Answer 11

To ensure segregation of duties, the following activities should be handled separately (by separate individuals):

1. Opening mail, handling checks received, and preparing remittance listing
2. Making deposit (daily)
3. Applying payments received to customer accounts
4. Preparing bank reconciliation on a timely basis.

Question 12

What comparison techniques can be used by the auditor to ensure appropriateness of transactions in the Cash Receipts business cycle?

Answer 12

1. Initial cash receipts listing (remittance listing) compared to total recorded in cash receipts journal and to bank deposit
2. Cash accounts reconciled to bank statements by independent person.

Question 13

List access controls that can be used in the Cash Receipts business cycle.

Answer 13

1. Employees with access to cash should be bonded
2. Access to cash receipts should be limited to those authorized.

Question 14

What control mechanisms can be used to ensure the appropriate execution of transactions in the Cash Receipts business cycle?

Answer 14

1. Adjusting journal entries should be approved by management
2. Bank reconciliations should be reviewed by management.

Question 15

What is the difference between an accounts payable system and a vouchers payable system?

Answer 15

An accounts payable system aggregates payables to identify the total owed to any individual vendor. A vouchers payable system keeps track of individual transactions for which payment is owed without summarizing the totals by vendor.

Question 16

Describe management’s role in the execution of transactions controls over cash disbursements in the expenditures/disbursements transaction cycle.

Answer 16

1. All adjusting entries approved by management;
2. Only authorized personnel should be able to place an order for goods and services on the entity’s behalf;
3. The department requesting the purchase should approve the goods or services received before payment is made.

Question 17

List 2 access controls applicable to the expenditures/disbursements transaction cycle.

Answer 17

1. Cash disbursement employees should be bonded;
2. Access to cash disbursements or related documents should be limited to authorized personnel.

Question 18

What comparison techniques can be used by the auditor to ensure appropriateness of transactions in the Expenditure business cycle?

Answer 18

1. Compare suppliers’ monthly statements with recorded payables
2. Compare purchase order to receiving document to vendor’s invoice.

Question 19

List some procedures used to ensure segregation of duties in the Expenditure business cycle.

Answer 19

1. Separate purchasing department
2. Purchasing personnel independent from receiving and recording
3. Bank reconciliations are prepared by someone not having other involvement in handling cash receipts, disbursements, or record-keeping.

Question 20

Identify the objectives of internal control related to the expenditures/disbursements transaction cycle.

Answer 20

1. Disbursements are for authorized expenditures as approved by management.
2. Disbursements are recorded at the proper amounts and classifications.
3. The supporting accounting records are agreed to the general ledger accounts.
4. Any adjusting journal entries are authorized by management.
5. Access to cash and disbursement records is limited to authorized personnel.

Question 21

Describe management’s role in the execution of transactions controls in the payroll transaction cycle.

Answer 21

1. Payroll should be reviewed and approved by a responsible official.
2. Computations should be verified by an independent person.
3. Overtime payments should be approved by management.
4. Payroll for management should be appropriately reviewed and approved.

Question 22

Identify 3 access controls applicable to the payroll transaction cycle.

Answer 22

1. Access to personnel files should be limited to authorized personnel.
2. Access to payroll checks should be limited to authorized personnel.
3. Personnel with access to payroll checks should be bonded.

Question 23

What comparisons should be made within the entity to ensure the appropriateness of payroll transactions?

Answer 23

1. Payroll information should be periodically matched to information in personnel files;
2. Payroll checks should be compared to entries on the payroll register;
3. Amounts on the payroll register should be agreed to the applicable general ledger accounts.

Question 24

Identify the objectives of internal control in the investing/financing transaction cycle.

Answer 24

1. Transactions are recorded accurately in accordance with management’s authorization.
2. Investment assets should be reasonably secure from loss.
3. Supporting detailed records should be maintained and compared to general ledger.
4. Management should approve any adjusting journal entries.

Question 25

Identify the objectives of internal control in the fixed assets transaction cycle.

Answer 25

1. Transactions are recorded accurately in accordance with management’s authorization.
2. Estimates used to record depreciation, etc. are reasonable and consistent over time.
3. Assets are safeguarded with appropriate property insurance is in force.
4. Supporting details records are properly maintained.
5. Management should approve any adjusting journal entries.

Question 26

Describe management’s role in the execution of transactions controls in the production/manufacturing inventory transaction cycle.

Answer 26

1. Acquisition and distribution of inventory should be in accordance with management’s authorization;
2. Should establish general approval of transactions with specified limits and require specific approval for amounts over those limits;
3. Management should approve any adjusting journal entries.

Question 27

How should employee responsibilities be allocated to facilitate a proper segregation of duties in the production/manufacturing inventory transaction cycle?

Answer 27

1. Separate authorization, bookkeeping (recording), and custody of inventory
2. Sales returns should be counted by receiving clerk, who prepares an appropriate receiving document.

Question 28

Identify the objectives of internal control related to the production/manufacturing inventory transaction cycle.

Answer 28

1. Resources obtained and used are accurately recorded timely
2. Transfers of finished goods are accurately recorded
3. Related expenditures are appropriately classified
4. Access to inventory is restricted to authorized personnel
5. Comparisons are made of actual inventory to recorded amounts