Question

Read the following control activity and answer the questions below:

The audit client indicated that they reviewed actual sales revenue data against forecasts on a monthly basis.

Required:

a) Identify what type of control activity this is and state whether it is a preventative or detective control.

b) Suggest an appropriate test of control for this specific control activity.

c) For part 2 above, identify which audit procedure is being used in your suggested test of control.

d) Assume that your test of control reveals that this control is not being performed as indicated by the client. Explain what could go wrong due to this internal control weakness, indicating one assertion that would be violated.

Answer 1

(a) It is Reconciliation & Perfromance Review type of control activity. Under such control activities, performance reviews of specific functions or activities may focus on compliances,financial or operational issues. Reconciliation involves cross checking of transactions or comparing the transactions with a selected range of criteria to ensure whether the information is accrate and finding conclusions therefrom.

Further, it is a detective control. preventive controls are put in place tostop a specific actionfrom taking place whereas detective controls are put in place toidentify specific actions after they have taken place.

Detective control seek to identify when protective activities are not effective in preventing errors and irregularities, including safeguard of assets. It involves:- control totals, physical inventory counts, comparing data on hand with some suitable criteria etc.

(b) appropriate test of control is Inspection -- inspection is a process of examination of supporting documents related to control procedures. For Example:we may check related invoices to see whether sales exist and appropriate procedures have been taken.

(c) Analytical Review

It is a procedure that is used to assess the unusual transactions or events that are principle or basic to performance of other procedures. For example:- we may use analytical procedures to assess the reasonablneess of actual or standard data available to us. The main reason is that sales are occurred to the entiy regularly.

(d) Internal control weakness is a failure in the implementation or effectiveness of internal controls. Due to internal control weakness, there are some common risks that every organisation can face:-

1. Management can Override Controls
2. Limited Seggregation of Duties
3. Overreliance on Detective Controls vs. Preventive Controls
4. Overly Trusting.
5. Informal controls can be less formal.

Here, the assertions related to class of transactions can be violated. Assertion for class of transactions include:-

1. Occurrence:- Transactions recognized in financial statements have occurred and relate to the entity or not.
2. Completeness:- If all the ransactions that were supposed to be recorded have been recognized in the financial statements
3. Accuracy:-If these Transactions have been recorded accurately at their appropriate amounts.
4. Cut-Off:- Transactions cannot be recorded in correct accounting periods.
5. Classification:- if the transactions classified and presented fairly in the financial statements.