QUESTION 6: UNDERSTANDING & TESTING INTERNAL CONTROLS

You have been the audit manager of Kane Ltd, a medium sized company, for a number of years. You discovered the following information while updating your knowledge of internal controls in preparation for this years audit:

Harshi Eiberg, the general manager suspects a fraud involving the theft of about $20,000 cash received from a debtor. It is suspected that the person(s) who stole the cash concealed the shortage by using receipts from another customer and delaying the credit to that customer. They would therefore need to continue to delay the recording of credits to other customer accounts to avoid being caught. Harshi has asked you to factor this in to your audit planning and procedures without alerting her staff as she does not want the person(s) responsible to know that the fraud is suspected and is being investigated.

Required:

a) State the term/name commonly used for the type of fraud described above? (1 mark)

b) Identify and explain which financial statement assertion is currently not true with regard to the overall debtors balance in the accounting records of Kane Ltd. (2 marks)

c) Explain briefly what type of internal controls you would expect to be in place to prevent theft of Kane Ltds cash and misuse of its computerised accounting system? Your explanation should include identifying at least one physical and one softwarerelated/automated example of such controls. (3 marks)

d) State how you would test each of the controls examples which you have identified in (c) above, using a different audit procedure for each. (2 marks)

e) Assuming that your tests of controls provided evidence that the controls concerned were working satisfactorily, state whether this would enable you to make: i) a preliminary assessment of control risk, or ii) a final assessment of control risk. (1 mark)

f) Identify and briefly explain any two limitations of internal controls, which illustrate why problems like the fraud above, may still occur even when companies have strong controls. (2 marks)