Lion Sdn Bhd. is a manufacturer of footballs and is a new audit client for your CPA firm. You are an audit supervisor of Amanh & Co and are currently preparing for the forthcoming interim and final audit for the year ending 31 December 2019. You are required to document and assess the sales system, recommend control improvements to deal with a specific fraud issue as well as undertake substantive testing of revenue.

Sales ordering, goods despatched and invoicing

Lion Sdn Bhd. sells footballs to a range of large and small sports equipment retailers in several countries. Sales are made through a network of sales staff employed by Lion Sdn Bhd., but new customer leads are generated through a third-party company. Sales staff are responsible for assessing new customers' creditworthiness and proposing a credit limit which is then authorised by the sales director. The sales staff have monthly sales targets and can use their discretion in granting sales discounts up to a maximum of 10%. They then record any discount granted in the customer master data file.

The sales staff visit customer sites personally and orders are completed using a two-part pre-printed order form. One copy is left with the customer and the other copy is retained by the salesperson. The sales order number is based on the salesperson's own identification (ID) number.

The company markets itself on being able to despatch all orders within three working days. Once the order is taken, the salesperson emails the finance department and warehouse despatch team with the customer ID and the sales order details and from this a pick list is generated. Sequentially numbered goods despatched notes are completed and filed in the warehouse.

Sequentially numbered invoices are generated using the pick lists for quantities and the customer master data file for prices. Standard credit terms for customers are 30 days and on a monthly basis sales invoices which are over 90 days outstanding are notified to the relevant salesperson to chase payment directly with the customer.

Payroll fraud

The chief financial officer (CFO) Mohd Haris, has informed you that a significant fraud took place during the year in the payroll department. A number of fictitious employees were set up on the payroll and wages were paid into one bank account. This bank account belonged to two supervisors, who were married, and were employed by Lion Sdn Bhd. One had sole responsibility for setting up new joiners in the payroll system and the other processed and authorised bank transfer requests for wages and supplier payments. These employees no longer work for the company and Mohd Haris has asked the audit firm for recommendations on how to improve controls in this area to prevent this type of fraud occurring again. Lion Sdn Bhd. operates Human Resources department.

Required:

a.Identify SEVEN (7) weaknesses in the existing internal control system and the possible consequences. For each of the weaknesses, suggest recommendations that can improve the system. Present your answer in the following format:

Weaknesses of the internal control system

Possible Consequences

Recommended procedures

(14 marks)

b. In relation to the payroll fraud, identify and explain THREE (3) controls Lion Sdn Bhd. should implement to reduce the risk of this type of fraud occurring again and, for each control, describe how it would mitigate the risk.

(6 marks)

c. Explain the auditor's responsibilities related to communications regarding internal control matters.

(5 marks)