Question

Question 3 [Note this question is from the Week 5 Tutorial] Internal controls play an integral role in developing reliable financial records that facilitates the decision-making process. Further, a well-designed internal control system helps in preventing or detecting errors and fraud. Realising the importance of internal controls, the internal auditing department of Dynamic Sportswear periodically reviews the accounting records of the company to determine the effectiveness of the internal controls. During the latest review, the internal audit department found the following conditions: 1. There are occasional discrepancies between the daily bank deposits and the cash receipts. [1 Mark] 2. One employee is preparing and approving the bad debt write-offs. [1 Mark] 3. There are also occasional discrepancies between physical inventory counts and perpetual inventory records. Furthermore, alterations have been made to the physical inventory counts and to the perpetual inventory records. [3 Mark] 4. The customer's records reveal that there are many customer refunds and credits. [1 Mark] 5. Many original documents are missing or lost. However, there are substitute copies of all missing originals. [2 Mark] 6. There is a substantial decrease in the gross profit percentage. This decrease is not explained. [2 Mark] 7. Many documents are not approved. [1 Mark] Required: Describe the possible reasons for these identified conditions above (from 1. – 7.) and recommend effective internal control(s) for each condition. [11 marks. Word limit: Up to 400 words.]

Answer 1

Answer:-

	a.Possible reason	b. Recommendation to Correct Condition
1	Daily bank deposits do not always correspond with cash receipts. Timing difference between when cash is received and when deposited in the bank -Cash is received after the day’s bank deposit is prepared and sent to the bank. -Bank credits bank deposits received after a certain hour on the next day. Cash receipts are being stolen	Make two deposits for each day’s receipts. An employee who does not handle cash receipts daily reconciles each day’s cash receipts per book with deposits per bank List cash received each day; compare it to daily cash deposits. Have 2 people involved in cash receipts if practical. If only one can be involved, video tape the receipts process. Have an employee who does not handle receipts do all reconciliations.
2	Bad debt write-offs are prepared and approved by the same employee. Collusion between customers and the employee writing off the bad debts.	Require all bad debt write-offs to be approved by a second employee.
3	Occasional discrepancies between physical inventory counts and perpetual inventory records. Unauthorized access to physical inventory and/or inventory records. Inventory theft by employees	Limit physical and logical access to the inventory records to authorized employees. Require that all adjustments to inventory records be approved by a responsible official. Count all inventory when received at the warehouse and at the storeroom; reconcile the counts. Count inventory to be shipped before it is removed from the storeroom, when received by shipping, and when shipped; reconcile counts. Bar codes and RFID tags to facilitate counts Hold storeroom employees responsible for all inventory losses.
4	Many customer refunds and credits. Collusion among customers, salespersons, common carriers, and the shipping and accounting departments of Covington. Poor product quality	Segregate duties so refunds and credits are authorized by responsible employees not otherwise involved in sales, shipping, or maintaining accounts receivable. Fix production problems
5	Many original documents are missing or lost. However, there are substitute copies of all missing originals. Failure to use pre-numbered documents. Fraud was perpetrated, original copies of the documents were destroyed, and they were replaced by photocopies.	Use pre-numbered documents to facilitate the control and identification of documents. Investigate all instances where originals are missing and photocopies are used.
6	An unexplained decrease in the gross profit percentage has occurred. Granting unauthorized discounts or credits to customers. Theft of inventory Customers given lower, preferential sales prices Unrecorded sales	Require the approval of a responsible party before granting customer discounts or credits. Count all inventory when received at the warehouse and at the storeroom; reconcile the counts. - Count inventory to be shipped before it is removed from the storeroom, when received by shipping, and when shipped; reconcile counts. Bar codes and RFID tags to facilitate counts Hold storeroom employees responsible for all inventory losses. Require the approval of a responsible party before granting preferential sales prices Require the use of pre-numbered sales documents and do not allow inventory to leave the warehouse without an accompanying sales document.
7	Many documents are not approved. Lack of, misunderstanding of, or failure to comply with written procedures. Fraud committed by bypassing the approval process	Prepare or update written procedures and train employees using the procedures Hold employees responsible for not approving documents Examine unapproved documents for evidence of fraud Terminate any employees that commit fraud