“The auditor shall obtain an understanding of internal control relevant to the audit. Although most controls relevant to the audit are likely to relate to financial reporting, not all controls that relate to financial reporting are relevant to the audit. It is a matter of the auditor’s professional judgment whether a control, individually or in combination with others, is relevant to the audit”

Required:

(a) State ANY TWO (2) methods auditor gains understanding on the internal control system.

(b) Describe the importance for external auditors to understand their client’s internal control over financial reporting.

(c) Identify the FIVE (5) elements of internal control, giving an example for EACH element.

(d) First Clean S/B (FC) is a house cleaning company. Customers’ houses are cleaned biweekly and received monthly statement, which is sent by cleaner. FC has many receivable balances, and these customers pay by cheque or cash, which is kept in a seal enveloped and then brought back by the cleaner.

The following procedures are applied to the cash received cycle:

(1) A junior clerk, Jessy from the accounts department opens the envelopes returned by cleaners. She records the receipts in the cash received logbook and then places all the money and cheques into the locked small cash box.

(2) The cash box will be checked and counted each day and every few days these sums are banked in by whoever member of the finance team is available.

(3) The cashier, Kassim records the details of the cash received logbook into the cash receipts day book and updates the receivables ledger.

(4) Usually the Kassim performs monthly bank reconciliation, which he then files. If he misses a month then he catches this in the following month’s reconciliation.

Required:

For the cash cycle of FC:

(i) Identify and explain FOUR (4) deficiencies in the system.

(ii) Suggest internal controls to address each of these deficiencies.

(iii) Explain tests of controls the auditors of FC would perform to assess if the controls are operating effectively.