Question 4 Internal control

You are the audit senior on the Pippin Pty Limited (Pippin) audit. Pippin is a distributor of equipment

to the mining industry.

Pippin uses an on-line computer system. No goods are manufactured in-house; rather, Pippin

maintains a stock of raw materials and sub-contracts the manufacture of its products to third parties.

Approximately 50 suppliers and sub-contractors are used and all have proven to be reliable. You have

made the following notes about the inventory system:

Procedures for raw materials

Separate systems, staff and warehouses are maintained for both raw materials and finished goods.

Purchase orders are automatically generated by the computer when stocks of any raw material fall

below 70% of the prior months usage. The purchase orders contain the following details:

date;

supplier name and address;

raw material needed.

Three copies of the purchase order are produced and distributed as follows:

copy 1to warehouse to enable follow up of late orders.

copy 2filed by accounts clerk in date order.

copy 3sent to supplier.

When raw material stocks are received, the bar codes attached to the delivery boxes by the supplier are

scanned into the system. A two-part Goods Received Note (GRN) is then produced:

copy 1matched to warehouse copy of purchase order by stores staff.

copy 2filed by accounts clerk.

The scanning process is aborted if the codes do not match those on the masterfile.

Procedures for finished goods

Production orders are automatically generated when finished goods fall below 60% of the prior

months sales. The production orders contain the following details:

date;

sub-contractors name;

raw materials required;

finished goods needed.

Two copies of the production order are produced:

copy 1 - to raw materials store for use as a picking slip, then it is packed with goods and sent to the

supplier.

copy 2 - filed by production controller in date order.

When the finished goods stocks are received, the bar codes attached to the delivery boxes by the

supplier are scanned into the system. A two-part GRN is then produced:

copy 1 - matched to production controllers copy of production order.

copy 2 - filed by accounts clerk.

The scanning process is aborted if the codes do not match those on the masterfile.

General notes

The computer automatically selects the supplier of both raw materials and finished goods based on:

the latest price (as per their most recent invoice).

their delivery times (based on the number of days between the date the purchase/ production order is

raised and the date the goods are scanned by the warehouse).

Password access is as follows:

Stores staff

(raw materials)

Purchase order printing for raw materials only.

GRN printing for raw materials.

Stores staff

(finished goods)

GRN printing for finished goods.

Production controller Production order printing, masterfile amendments.

Accounts clerk Masterfile amendments.

Masterfile amendments

The stock masterfile contains details of:

existing stock items including codes and warehouse location;

approved suppliers and sub-contractors.

Orders will only be generated to suppliers and sub-contractors recorded on the masterfile. Masterfile

changes are made by the production controller for both raw materials and finished goods inventory. A

masterfile amendment form is completed by the production controller as a record of the changes made.

Required

(a) Identify seven (7) weaknesses in the internal controls described. Discuss the potential financial

statement implications for each of the weaknesses you have identified. (7 marks)

(b) Assume your IT audit division is to perform testing of controls for the inventory systems

described. Identify and justify three (3) tests that you would recommend they perform. (3 marks)

(c) Identify and justify three (3) Computer Assisted Audit Techniques (CAATs) that you would

request the IT auditors run to assist you in testing the valuation of inventory. (3 marks)

(d) Assume your IT auditors ran a CAAT on inventory data contained in Pippin's management

accounts. You intend to use this data to assist in your analytical procedures work. Identify two tests

that you would perform on the data produced by the CAAT, prior to placing reliance on the data. (2

marks)