Question

Oakdale, Inc., is a subsidiary of Solomon Publishing and specializes in the publication and distribution of reference books. Oakdale's sales for the past year exceeded $18 million, and the company employed an average of 65 employees. Solomon periodically sends a member of its internal audit department to audit the operations of each of its subsidiaries, and Katherine Ford, Oakdale's treasurer, is currently working with Ralph Johnson of Solomon's internal audit staff. Johnson has just completed a review of Oakdale's investment cycle and prepared the following report.

General

Throughout the year, Oakdale has made both short-term and long-term investments in securities; all securities are registered in the company's name, According to Oakdale's bylaws, long-term investment activity must be approved by its board of directors, while short-term investment activity may be approved by either the president or the treasurer.

Transactions

Oakdale has a computer link with its broker; thus, all buy and sale orders are transmitted electronically. Only individuals with authorized passwords may initiate certain types of transacs tions. All purchases and sales of short-term secu_ rities in the year were made by the treasurer. In addition, two purchases and one sale of long. term securities were executed by the treasurer. The long-term security purchases were approved by the Board, The president, having online authorization access to all transactions, was able

to approve a sale of a long-term security. Th president is given access to authorize all transactions engaged in by the firm. Because the treasurer is listed with the broker as the company's contact, all revenue from these investments is received by this individual, who then forwards the checks to accounting for processing.

Documentation

Purchase and sales authorizations, along with brokers' advice, are maintained in an electronic file with authorized access by the treasurer. Brokers' advice is received verbally on the phone, and this advice is noted on a broker advice form. This form is filed by the treasurer. The certificates for all long-term investments are kept in a safe deposit box at the local bank; only the president of Oakdale has access to this box. An inventory of this box was made, and all certificates were accounted for. Certificates for short-term investments are kept in a locked metal box in the accounting office. Other documents, such as longterm contracts and legal agreements, are also kept in this box. There are three keys to the box, held by the president, treasurer, and the accounting manager. The accounting manager's key is available to all accounting personnel, should they require documents kept in this box. Certificates of investments may take up to four weeks to receive after the purchase of the investment. An electronic inventory list is kept perpetually. The data are keyed in by accounting personnel who receive a buy/sale transaction sheet from the treasurer. The president, treasurer, and accounting manager all have passwords to access and update this inventory list. The accounting manager's password is known by two of the accounting supervisors in case the inventory list needs to be updated when the accounting manager is not available. Documentation for two of the current short-term investments could not be located in this box; the accounting manager explained that some of the investments are for such short periods of time that formal documentauon is not always provided by the broker.

Accounting Records                                        

Deposits of checks for interest and dividends earned on investments are recorded by the accounting department, but these checks could not be traced to the cash receipts journal maintained by the individual who normally opens, stamps, and logs incoming checks. These amounts are journalized monthly to an account for investment revenue. Electronic payments for investment purchases are authorized by the treasurer. If the amount is in excess of $15,000, an authorization code given by the treasurer or president is necessary.

Each month, the accounting manager and the treasurer prepare the journal entries required to adjust the short-term investment account. There was insufficient backup documentation attached to the journal entries reviewed to trace all transactions; however, the balance in the account at the end of last month closely approximates the amount shown on the statement received from the broker. The amount in the long-term investment account is correct, and the transactions can be clearly traced through the documentation attached to the journal entries. No attempts are made to adjust either account to the lower of aggregate cost or market.

Required;

To achieve Solomon Publishing's objective of sound internal control, the company believes the following four controls are basic for an effective system of accounting control.

• Authorization of transactions
• Complete and accurate record keeping
• Physical control
• Internal verification

1. Describe the purpose of each of the four controls listed above.
2. Identify an area in Oakdale's investment procedures that violates each of the four controls listed above.

For each of the violations identified, describe how Oakdale can correct it.

Answer 1

a) 1.Authorization of transaction is needed for safeguarding assets from fraud and illegal transactions. Transactions should be executed by personnel only which are within his authorization.

2.Complete and accurate record keeping is needed to make sure that transactions are recorded on time and are accurately recorded. Records also ensure preparation of financial statements in accordance of generally accepted accounting principles.

3.Physical controls are needed to safeguard documents, assets, and for preventing loss and alteration.

4.Internal Verification means reviewing accuracy and testing of recorded assets at reasonable intervals of time.

b) Violations relate to investment procedures. The violations and corrections of the four controls listed in part (a), are :

Violations Proposed	Corrections
Sale of long term securities on president's approval when the approval of BOD is required, violates authorization procedures.	Reinforce policy which permits only BOD authorization in long term securities transactions. Formalize procedures.
Dividend and interest checks received by treasurer and forwarded to accounting department; no entry made in cash book. It becomes impossible to determine if all interest, dividend checks have been received and received.	Interest and dividend checks should be reconciled. Reconciled statements should be kept to make sure checks have been received, deposited and accounted.
The balance in accounts at end of month should approximate amount shown on broker's statements.	Reconciliations of differences should be done by accounting department and procedures should be implemented to to make sure the monthly reconciliations of accounts and brokerage statements.
Unrestricted access to short term securities in accounting department.	Short term securities access should be limited, restricted and two people should be available every time securities are being accessed. Long book should be kept to record disposition of securities.
Treasurer has authority for buying, selling, revenue receiving and recording journal entries of securities.	Internal Control should be strengthened to make sure treasurer does not have conflicting duties.