3. Consider the following two situations and describe the recommendations the internal auditors should make to prevent the problems presented:

a. Many employees of a firm that manufactures small tools pocket some of the tools for their personal use. Because the quantities taken by any one employee are immaterial, the individual employees do not consider the act as fraudulent or detrimental to the company. The company is now large enough to hire an internal auditor. One of the first things she did was to compare the gross profit rates for industrial tools to the gross profit for personal tools. Noting a significant difference, she investigated and uncovered the employee theft.

b. A manufacturing firms controller created a fake subsidiary. He then ordered goods from the firms suppliers, told them to ship the goods to a warehouse he rented, and approved the vendor invoices for payment when they arrived. The controller later sold the diverted inventory items, and the proceeds were deposited to the controllers personal bank account. Auditors suspected something was wrong when they could not find any entries regarding this fake subsidiary office in the property, plant, and equipment ledgers or a title or lease for the office in the real-estate records.