Unit 7 Flashcards
What are Internal Controls?
Internal controls are designed, implemented and maintained to address identified business risks that threaten the achievement of the entity’s objectives.
What do Internal Controls ensure?
- Reliable financial reporting
- Effectiveness and efficiency of operations
- Compliance with applicable laws and regulations
What is the objective of internal controls?
-ensure that errors in the processing of transactions do not occur, and if they do, that these errors are identified and rectified quickly.
What are 7 objectives of internal controls?
Internal controls are designed and implemented to ensure that transactions are:
- Real: that fictitious or duplicate transactions are not recorded in the books.
- Recorded: that transactions are not omitted from the books.
- Valued: that the correct amounts are assigned to transactions.
- Classified: that transactions are charged and allocated to the correct GL account.
- Summarized: that the transactions are summarized and totaled correctly in the books.
- Posted: that the accumulated totals in the subsidiary ledgers are correctly transferred to the general ledger.
- Timely: that transactions are recorded in the correct accounting period.
What are two categories of internal controls?
- entity-level controls: exist at entity level
- transaction level controls: affect a particular transactions or group of transactions.
What are some types of entity level controls?
- Communication and enforcement of integrity and ethical values regarding control (e.g: has management communicated the organization’s values and behavioural standards to personnel through a code of conduct).
- Commitment to competence (e.g: do management and employees have the necessary competence to carry out their assigned roles and receive adequate supervision where required?)
- Organizational structure (e.g: are there sufficient policies and procedures in place for the size of the organization?)
- Assignment over authority (e.g: do all employees understand their individual roles, know how their role contributes to the organization’s objectives and how they will be held accountable for their actions?)
- Human resource policies and practices (e.g: do the organization’s HR resources and practices ensure that competent and responsible employees are being hired?)
What are two general forms of transaction level controls?
- Preventative controls: designed to prevent a material misstatement from occurring
- Detective controls: designed to detect, report and correct a material misstatement.
- A transaction level control can be preventative, detective or both.
What are some types of transaction level controls?
- Authorization: acts as a preventative control. Example: authorization is required over the purchase of goods and services.
- Segregation of duties: acts as a preventative and a detective control. Example: the individual who opens the mail and prepares a listing of cheques received is not the same individual who makes the daily bank deposit.
- Reconciliation: acts as a detective control. Example: the monthly bank reconciliation is prepared and reviewed.
- IT application controls: acts as both a preventative and a detective control. Example: where customer credit limits are exceeded, the application control prevents the order from being processed. The order cannot be processed until the credit limit is approved by the credit manager.
- Review of results: acts as a detective control. Example: journal entries and supporting documentation for all transactions recorded to the sales ledger are reviewed daily.
- Physical controls: acts as both a preventative and a detective control. Example: secured warehouses store inventory and management performs periodic inventory counts, comparing the inventory on the warehouse floor to the inventory subledger
What are the steps in a Sales process of transaction level internal controls? (Pg.243,244,245 for risks in each step)***
- Accepting and processing orders:
- Review of orders processed each day by an independent staff person.
- All orders are assigned a sequential number. The system prevents duplicate order numbers from being used.
- Authorizing customer credit:
- Credit manager reviews and approves customer credit limits.
- Approval must be granted by the credit manager before an order that exceeds the customer’s credit limit will be processed.
- Shipping goods:
- Three-way match of order, shipping document and sales invoice before the goods are shipped.
- Staff person dispatching the inventory is not the same individual as the staff person filling the order.
- Access to the shipping areas is limited to authorized personnel.
- Invoicing customers:
- Approved master price list used by system for invoice pricing.
- Access to master price list is restricted to authorized personnel.
- Sales manager approves all discounts.
- System will not allow date of sales invoice to be modified without approval.
- Recording accounts receivable:
- Accounts receivable statements are sent to customers monthly and issues are promptly resolved.
- Monthly reconciliations between the accounts receivable subledger and the general ledger.
- Processing cash receipts:
- Cheque pre-listing prepared.
- Cheque pre-listing is reconciled to the cash receipts.
- Bank reconciliation is prepared and reviewed monthly.
What are the steps in a Purchasing process of transaction level internal controls? (Pg 246, 247 for risks of process)***
- Purchase requisition:
- Purchase requisitions are prepared by an authorized person.
- Spending limits are set based on level of authority.
- Purchasing:
- Three-way match between purchase order, receiving report and invoice.
- All purchase orders are approved by the purchasing manager.
- Supplier statements are reconciled monthly.
- Receiving:
- Damaged goods are rejected by the warehouse manager, and the accounts payable clerk and purchasing officer are notified.
- Invoicing:
- Invoice prices are checked against approved purchase orders and master price lists.
- All relevant documentation is reviewed and approved by two people.
- Recording purchases and related items:
- Purchase invoice dates cannot be changed without approval.
- Monthly purchases and trade payables reconciliation between the subsidiary ledger and the general ledger.
- Cash disbursements:
- Use of sequential cheques.
- Cash disbursement journal reconciled to total of cheques issued.
- Vendor statement reconciliation.
Does assessment of control risk look at both entity level and transaction level controls?
Yes
What two strategies will an auditor look at based on their assess,ent of control risk?
- substantive audit strategy
- combined audit strategy
What is a substantive audit strategy?
- the auditor will gain the minimum necessary knowledge of the client’s system of internal controls.
- The auditor does not obtain a detailed understanding of the internal control in this case, as the auditor will not be testing or relying on these controls.
- Chosen when control risk is high
What is a combined audit strategy?
-Under a combined audit strategy, the auditor will gain a detailed understanding of the client’s system of internal controls, as the practitioner plans on testing and relying on these controls to prevent or detect and correct material misstatement due to fraud or error.
–Chosen when control risk is low
What may an auditor find when testing internal controls and what must they do?
- They may find deficiencies
- the auditor is required to communicate, in writing, the significant deficiencies in internal control identified during the audit to those charged with governance.
