Question

1.24

Note this is a computational question. Note there are two parts in the question. Clearly type out your answers to each subpart of the question. Show your steps.

Hong Kong Telecom asked you to assess its internal control system. After careful review, you believed that Hong Kong Telecom has serious flaws in their internal control system. You estimated that the impact associated with this problem is $20 million and that the likelihood is currently 9%. Three procedures can be used to deal with this problem. Procedure A would cost $550,000 and reduce the likelihood to 5%; procedure B would cost $850,000 and reduce the likelihood to 3%. If both procedures were implemented, likelihood would be reduced to 1%.

a. What is the estimated expected loss associated with ABC Corporation’s internal control problem before any new internal control procedures are implemented? ( 5 points)

b. Compute the revised estimate of expected loss if procedure A were implemented and if both procedures were implemented.

Answer 1

a) The estimated expected loss associated with ABC Corporation’s internal control problem before any new internal control procedures are implemented will be based on impact associated amount i.e. $ 20m

So in the similar manner expected loss before new internal control procedure will be applied will be = 9% of $20million

= $ 20million * 9%

= $ 1.8 million

b) Now the revised estimation of expected loss if procedure A were implemented will be in such manner that original loss percentage of 9% will be reduced to 5% which means loss         = 20 million * 5%

= $ 1 million.

Additional expense to be incurred for reduction of loss Percentage = $ 550000.

Total loss       = expected loss + expenses

= $1000000 + $550000

= $ 1550000

= $ 1.55 million

Now if both the procedures A and B are simultaneously implemented then revised estimate of expected loss will be 1%

Which means loss = $ 20million * 1%

= $ 200000

Additional expense to be incurred for implementing both A and B procedures regarding this = $ 550000 + $ 850000

= $ 1.4 million

Total Loss      = expected loss + expenses

= $ 200000 + $ 1400000

= $ 1600000

= $ 1.6 million

Conclusion: IF only procedure A is implemented then loss from original loss of $ 1.8 million get reduced to $ 1.55 million, however if both procedures are implemented then loss gets reduced to $ 1.6 million, here by solving both methods in part (b), original loss gets reduced but it is better to choose to implement only procedure A as in that case loss is minimum.