For forty years the Levis owned and operated a jewelry store. They had survived many financial ups and downs over the years, but the current declining cash position of the company was nearing critical. On more than one occasion Mrs. Levi had suspected Betty, a long term, reliable, employee for over twenty years, might be stealing from the company. Betty not only worked as a sales clerk, but she also handled all of the cash and bank deposits and maintained all of the sales and cash receipts records. She had unrestricted access to all of the cash. Mr. Levi and their son, Alvin, who also worked in the business, disregarded Mrs. Levi’s suspicions. When she went to her accountant, he revealed that he had noticed an unusual number of shortages in the cash receipts records. He recommended that Mrs. Levi monitor Betty closely.
Eventually Betty’s embezzlements were uncovered when a customer came in to make a layaway payment, on Betty’s day off. Alvin was not able to locate the layaway ticket in the layaway file, nor was he able to locate the sale at all in the sales records. When Betty returned to work the next day and quickly produced the layaway ticket, saying it had been in the file all along, Alvin began to rethink Mrs. Levi’s suspicions. This doubt was compounded with Betty’s explanation of never ringing up the sale as an oversight. Over the following several weeks Alvin studied the cash receipts and daily sales records. He soon realized that their trusted and long time employee, Betty, was stealing from the company and estimated her overall embezzlement at over $350,000 (Knapp, 2011). 1. Identify the internal control concepts that the Levis overlooked or ignored.
The Committee of Sponsoring Organizations (COSO), formed in order to establish what businesses could do to improve financial reporting, is comprised of representatives from the Financial Executives Institute (FEI), the American Accounting Association (AAA), the Institute of Internal Auditors (IIA), the Institute of Management Accountants (IMA), and the AICPA. According to COSO the five components of internal controls include: 1. Control environment – sets the internal control tone of the company, is the foundation of all other control components, and its factors include integrity, values, competence, management philosophy of authority and responsibility, and employee development. 2. Risk assessment – the identification and analysis of economic, industry, regulatory, and operational risk factors that jeopardize the ability of the company to reach its objectives. 3. Control activities – activities that ensure management’s directives are carried out and include approval procedures, verifications, reconciliations, performance reviews, physical inventory security and separation of duties. 4. Information and communication – open communication and reporting of operational, financial, and compliance information to all interested parties that is timely, reliable and relevant. 5. Monitoring – ongoing monitoring of the effectiveness of the internal control systems by internal and external evaluations, (The Internal Auditor, 2006).
As is common with many small businesses, the Levis did not have any of the internal control components in place. Because it was just the four of them running the store, creating a control environment was probably not priority as ethical behavior and integrity were assumed. In assessing the risk of the company not meeting its financial objectives, the Levis most likely discussed the economy, and may have even discussed theft as a risk, but obviously did not deem employee embezzlement as a risk, or they would not have allowed Betty unrestricted access to the entire cash cycle.
The most obvious and important control activity that the Levis failed to have is separation of duties. The person who physically receives the cash should never be the same person that records the cash receipt,...
References: American Institute of Certified Public Accountants, (2007). Summary of SAS No. 99, retrieved on April 7, 2012 from http://www.aicpa.org/InterestAreas/ForensicAndValuation/Resources/Fra udPreventionDetectionResponse/Pages/Summary%20of%20SAS%20No.asp x
American Institute of Certified Public Accountants, (2012). ET Section 56 – Article V – Due Care. Retrieved on April 7, 2012 from http://www.aicpa.org/Research/Standards/CodeofConduct/Pages/et_56.as px
Association of Certified Fraud Examiners (2002). How to prevent small business fraud. Retrieved from http://www.acfe.com/search.aspx?SearchText=how+to+prevent+small+busi ness+fraud
Knapp, M. (2010). Contemporary auditing: real issues and cases. Mason, Ohio: South- Western.
Louwers, T., Ramsay, R., Sinason, D., Strawser, J., & Thibodeau, J. (2011). Auditing and assurance services. New York: McGraw-Hill/Irwin.
Public Company Accounting Oversight Board (2012). AU Section 316: Consideration of fraud in a financial statement audit.
The COSO Model. (2005). The Internal Auditor, 62(2), 53. Retrieved April 7, 2012, from ABI/INFORM Global. (Document ID: 844911081).
Please join StudyMode to read the full document