Documenting The Internal Control System-Fundamentals of Auditing-Lecture Notes, Study notes of Auditing

Download Documenting The Internal Control System-Fundamentals of Auditing-Lecture Notes and more Study notes Auditing in PDF only on Docsity! Lesson 17 DOCUMENTING THE INTERNAL CONTROL SYSTEM Benefits of Internal Control to the entity Based on our previous studies we can now identify the following principal benefits that may arise for an entity from a sound system of internal control: a) Assurance that all transactions are completely and accurately processed. b) Confidence that only authorized transactions takes place. c) Assurance that adequate documentation supporting transactions is created and retained. d) Assurance that the company’s assets and liabilities are correctly stated, in order for them to make informed decisions on the operations of the business. e) Minimization of the risk of fraud and misappropriation of assets. Benefits of Internal Control to the auditor Of course, if the audit client benefits from a sound system of internal control, it is likely that the auditor will also be benefited. All of the above stated benefits help to promote a situation where the financial statements present a true and fair view. In simple terms, a good system of internal control will make life easier for the auditor. Auditor’s work on the Internal Control International standards on auditing emphasize the importance of internal control to the auditor by stating that auditor should: a) Obtain an understanding of the accounting and internal control system sufficient to plan the audit and develop an effective audit approach, and b) Use professional judgment to assess the components of audit risk and to design audit procedures to ensure it is reduced to an acceptably low level. At an early stage in their work auditors will have to decide the extent to which they wish to place reliance on the internal controls of the enterprise. As the audit proceeds, that decision will be kept under review and, depending on the results of their examination, they may decide to place more or less reliance on these controls. Categories of Internal Control These are often summarized by using the mnemonic SOAP MAPS as follows: a) Supervision b) Organization c) Arithmetic and Accounting d) Physical e) Management and Monitoring f) Authorization g) Personnel h) Segregation of duties a) Supervision There should be adequate supervision of work to ensure that controls are being complied with. Possible application: a supervisor or manager reviews and checks the work of a subordinate. b) Organization Enterprises should have a formal, documented organization structure with clear lines of responsibility. Possible application: lines of authority within an organization make it clear which individuals are responsible for decisions and transactions c) Arithmetic and Accounting The company should ensure that there are adequate controls to ensure the completeness and accuracy of its financial records. docsity.com Possible application: standard accounting procedures such as the use of control accounts, reconciliation procedures and the performance of arithmetic checks on accounting records. d) Physical There should be adequate physical control to ensure the security and safekeeping of its assets such as plant and machinery, valuable inventory items and cash. Possible application: banking cash immediately, controlling access to inventory areas; electronic tagging of inventory and portable non-current assets. e) Management and Monitoring There should be sufficient controls in existence to ensure management can effectively control the business operations. Possible application: the use of budgeting and standard costing systems; the establishment of an internal audit department f) Authorization All transactions should be authorized. Possible application: authorization of purchases, cash and bank payments, sale of non-current assets, sales to customers on credit, bad debt write offs. g) Personnel Employees should be appropriately qualified and of suitable caliber to perform the required tasks. Possible application: recruiting the right people for the job; training them effectively, motivating and rewarding employees in an appropriate way. h) Segregation of duties There should be an appropriate division of responsibilities to reduce the opportunity for fraud and manipulation. This is a fundamental control procedure designed to ensure that one person does not have sole charge of a transaction from beginning till end. Perfect segregation of duties exists where each of the main stages in a transaction are under the control of a different person. Possible application: Consider an inventory purchasing system in a manufacturing company: Stage Documentation Responsibility Initiation Stores requisition Stores keeper Authorization Purchase order Purchasing officer Custody Goods received note Receiving officer Recording Invoice Account department Documenting the system Documenting the system is an extremely important stage in the audit; Auditing standards state that in planning the audit, auditors should obtain and document an understanding of the accounting system and control environment sufficient to determine their audit approach. The various methods of ascertaining and recording the system may be summarized as follows: 1. Organization chart 2. Narrative notes 3 Flowcharts 4 Internal control questionnaires (ICQs) 5 Internal control evaluation checklists (ICEC) docsity.com