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Internal Control and Its Components

Internal Control and Its Components

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Published by majidghauri

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Categories:Business/Law, Finance
Published by: majidghauri on Oct 30, 2009
Copyright:Attribution Non-commercial


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Internal Control and its Components
Internal controls are methods and policies designed to prevent fraud, minimize errors, promoteoperational efficiency, and achieve compliance with established policies and procedures.A strong system of internal controls will help to bring the following benefits to the company:
Ensure the accuracy of the company’s accounting data and financial reports;
Reduce the risks of fraud or theft against the company by third parties or employees;
Reduce the risks of unintentional errors by employees which could be damaging to thecompany;
Reduce the risks of non-compliance with the company’s policies and business processes;and
Prevent unnecessary risk exposure due to insufficient risk management.
Control Enviornment 
The control evironment means the overall attitude, awareness, and actions of directors andmanagement regrading the internal control system and its importance in the entity.There are potentially many control activities, but they generally fall into five categories:1.
Adequate separation of duties2.
Proper authorization of transactions and activities;3.
Adequate documents and records4.
Physical control over assets and records; and5.
Independent checks on performance
Commitment to integrity and ethical values
: the effectiveness of internal controls cannot rise above theintegrity and ethical values of the people who create, administer and monitor them
Commitment to competence and quality 
: a company’s control environment will be more effective it itsculture is one in which quality and competence are openly esteemed.
Independence, integrity and openness at the board of directors level 
. An active and involved board of directors possessing an appropriate degree of management, technical and other expertise coupled withthe necessary stature and mind set so that it can adequately perform the necessary governance,guidance and oversight responsibilities is critical to effective internal control
 An appropriate organizational structure
: by understanding the entity’s organizational structure, theauditor can discover the management and functional elements of the business and how control policiesare carried out
 Appropriate delegation of authority with accountability 
: responsibility and delegation of authorityshould be clearly assigned
 Appropriate humand resource policies and practicesRisk assessment 
: with trustworthy and competent employees,other controls can be absent and reliable financial statements will still result.If management effectively assesses and responds to risks, the auditor will typically need to accumulateless audit evidence than when management fails to , because control risk is lowerA technique to identify risks involves identifying and prioritizing high risk acitivities is:a.
Identify the essential resources of the business and determine which are most at riskb.
Identify possible liabilities which may arisec.
Review the risks that have arisen in the pastd.
Consider any additional risks imposed by new objectives or new external factors; ande.
Seek to anticipate change by considering problems and opportunities on continuing basis.
Control activities
They are those policies and procedures which management has established to achieve the entity’sspecific objectivesControl procedures entail three fundamental functions which must be separated and adequatelysupervised: authorization, custody and recording.Control procedures are usually considered to fall into five categoriesa.
Adequate segregation of dutiesb.
Proper authorization of transactions and activitiesc.
Physical custody control over assets and recordsd.
Independent checks on performancee.
And adequate documents and records
Information and communication
Information must be identified by management as relevant and delivered to the people who need it in aform and time frame that allows them to carry out their control and other responsibilitiesThe accounting system consist of method and record established and designed to
Identify and record all valid transactions, assets and liabilitiesb.
Describe the transactions on a timely basis insufficient detail to permit their propr classificationfor financial reportingc.
Measure the value of transactions, assets and liabilities in a manner that permits recording theirproper monetary value in the financial statementsd.
Present the transactions and related disclosures properly in the financial statementAs part of the procedures to obtain an understanding, the following should be documenteda.
The accounting record, computer files, supporting documents and financial accounts involved inprocessing transactionsb.
The classes to significant transactionsc.
How the transactions are initiatedd.
The accounting process from initialization of a transaction to its inclusion in the financialstatementse.
The financial reporting process used to prepare the financial statements including significantaccounting estimates and disclosures.
Monitoring is a process that deals with ongoing or periodic assessment of the effectiveness of theirdesign and operationMonitoring should address whether proper accounting records are being maintained and whether thefinancial information used within the business and for publication to third parties is reliableWhen evaluating the ongoing monitoring the following issues might be considereda.
Extent to which personnel obtain evidence as to whether the system of internal controlcontinues to functionb.
Periodic comparisons of amounts recorded with the accounting system with physical assetsc.
Responsiveness to internal and external auditor recommendations on means to strengtheninternal controlsd.
Effectiveness on internal audit activities.
Evaluation of Accounting and InternalControl System
The basic audit approach to evaluating internal controls involves four broad steps:1.
Obtain an understanding of internal control and its components2.
Assess control risk

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