External Auditing

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Auditing: An International Approach (7th Edition) Chapter 13 DC13-1

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DC 13-1 Controls and Substantive Testing in Wages Payroll. LO2, 3, 4 You are the audit senior on the engagement team that is performing the audit of MR Roboto Inc.'s financial statements for its December 31, 20X5, year-end. Your firm has audited MR Roboto for the past three years. You are now reviewing the company's payroll process and controls, in order to start designing your audit programs. MR Roboto operates a nuclear waste processing and storage operation in a remote region of Ontario. The process is mainly automated, but the company has a small workforce of 40 employees who monitor the processing plant and the storage areas. The facility is staffed 24 hours a day, seven days a week. There are also 15 employees who work in the company's administration. The payroll accounting process includes some automated and some manual procedures. You have documented the description of the plant employee payroll process and its internal controls, as follows. The plant employees work seven-hour shifts and are paid based on hours worked. There are four shifts per day to allow overlap of employees during shift changes, since the plant processes must be monitored at all times. Employees are assigned an employee number when they are hired and are required to clock in and out by swiping their employee identification cards at the plant entrance. The time-clock data is linked into the computerized payroll system, which processes the payroll and produces a weekly report of hours worked. There is no monitoring of employees' clocking in/out process. One of the audit team members observed an employee clocking in with two employee swipe cards. When the employee noticed the auditor watching, he explained that the other employee will be working on the shift \"... but he just stopped on the way in to pick up the coffee and donuts for our shift change meeting.\" The payroll system calculates the weekly cash wages to be paid to each employee, based on their hourly rates, by taking the information from the payroll system's hours worked report, multiplying it by the appropriate hourly wage rates, and calculating the appropriate tax deductions. The plant employees are paid in cash because the location of the plant is remote and there is no bank within hundreds of kilometres. These calculations are not checked by anyone, as they are generated by the payroll system. Each Friday, the payroll department prepares the pay packets and physically hands these out to the plant employees who are on day shifts. Every employee must present his or her employee identification card to receive the pay packet. For employees on the night shifts, the pay packets are distributed by the night supervisor. If any packets are not claimed, the night supervisor keeps them and returns them to the payroll department on the next business day. During your inquires, the CFO informs you that early in the current year, the government income tax department assessed the tax withholdings of MR Roboto and determined that too little tax had been deducted. The error occurred because the company had failed to update the system to the current year's tax rates. MR Roboto's CFO is asking why your audit of last year's financial statements did not discover this error. Required: a. Identify three control weaknesses in the payroll system of MR Roboto. Explain the possible implications of each weakness, and provide a recommendation to address it. b. Describe the substantive procedures you would perform to verify the valuation and completeness of MR Roboto's payroll expenses