Unit 6 Assignment
AC410-01, Unit 6
12–21. Nolan Manufacturing Company retains you on April 1 to perform an audit for the fiscal year ending June 30. During the month of May, you make extensive studies of internal control over inventories. All goods purchased pass through a receiving department under the direction of the chief purchasing agent. The duties of the receiving department are to unpack, count, and inspect the goods. The quantity received is compared with the quantity shown on the receiving department’s copy of the purchase order. If there is no discrepancy, the purchase order is stamped “OK—Receiving Dept.” and forwarded to the accounts payable section of the accounting department. Any discrepancies in quantity or variations from specifications are called to the attention of the buyer by returning the purchase order to him with an explanation of the circumstances. No records are maintained in the receiving department, and no reports originate there. As soon as goods have been inspected and counted in the receiving department, they are sent to the factory production area and stored alongside the machines in which they are to be processed. Finished goods are moved from the assembly line to a storeroom in the custody of a stock clerk, who maintains a perpetual inventory record in terms of physical units, but not in dollars. What weaknesses, if any, do you see in the internal control over inventories?
There is an organizational structural problem because a purchasing agent should never be over the receiving department. Additionally, items should be stored in a separate location and not sent directly into the production area. Copies of purchase orders should never be sent to the receiving department because this can lead to “careless counting” and intentional misstatements. Furthermore, I did not notice any control over the movement of materials into the goods-in-process or any records of quantities in goods-in-process. Lastly, the custody of finished goods and their records are being kept with the same employee.
12–35. Described below are potential financial statement misstatements that are encountered by auditors. A. Inventory is understated because warehouse personnel overlooked several racks of parts in taking the physical inventory.
This is an error. As a control a system should be developed which outlines procedures for both accurate inventory taking procedures and overall supervision of inventory. The substantive procedure would be the observation of inventory. B. Inventory is overstated because warehouse personnel included inventory items received subsequent to year-end while recording the purchase in the subsequent year to hide inventory shortages.
This is a fraud. In order to control and prevent this from happening serialized receiving reports should be used. Furthermore, controls should be put into place to ensure a cut-off of purchases and payables exist. The substantive procedure for this would be to collect cut-off information and trace it to the accounting records and also by the observation of inventory. C. Inventory is overstated because management instructed computer personnel to make changes in the file used to price inventories.
This is fraud. Controls should be placed through the audit committee and internal control department to monitor management’s abrogate of the internal controls. The substantive procedure for this is to do a price test for a sample or samples of specific inventory items. For each misstatement, identify whether the misstatement results from error or fraud, the type of controls that would serve to prevent or detect the misstatement, and the substantive procedures that might be used by the auditors to detect the misstatement.
13–31. You are part of the audit team that is auditing Happy Chicken, Inc., a company that franchises Happy Chicken family restaurants. During the current year,...
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