AC2104: Seminar 8

Seminar 1, Group 9
Mini Presentation

Chua Qin Rong, Joel Kwek, Lee Shu Ting, Kelvin Tay
“
(a) Identify and explain the
differences between the types of
testing the auditor would undertake
for the existence of the internal
control and for the effectiveness of
internal control.
Differences between the types of testing the auditor would
undertake for existence and effectiveness of internal controls

What is an Internal Control?

Process designed and effected by an entity’s management and other
personnel to provide reasonable assurance that the organization’s
objectives are being met:
▰ Effectiveness and efficiency of operation
▰ Safeguarding of assets
▰ Reliability of financial reporting
▰ Compliance with applicable laws & regulations
▰ SSA 315 (12): Most controls relevant to the audit are likely to relate to
financial reporting 3
Differences between the types of testing the auditor would
undertake for existence and effectiveness of internal controls

Existence of Internal Controls Effectiveness of Internal Controls

▰ Whether prescribed ▰ Whether the control is operating
internal control procedures effectively
actually exist ▰ Usually evaluated as part of the
▰ Normally identified when tests of controls
evaluating the design of
the internal control policy
and activities

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Internal Controls
Identifies existence
of Internal Control

Evaluates
effectiveness of
Internal Control
In evaluating the
effectiveness of internal
controls, we will inevitably
evaluate the design of
controls and whether it is
implemented. Thus, both
tests can be done at the
same time. 5
Internal Controls

Similarities: Same Types of Audit Procedures

SSA 315:A21

- The types of audit procedures used for testing existence and

effectiveness is the same
- Some procedures will nevertheless provide evidence on the test for the
other, and hence, auditors may choose to use the same procedure for
both
Internal Controls

Similarities: Same Types of Audit Procedures

SSA 315:A22
Differences between the types of testing the auditor would
undertake for existence and effectiveness of internal controls

Evaluating the design and implementation of internal controls does

not always provide audit evidence on the operating effectiveness of
controls.
E.g. Obtaining audit evidence about the implementation of a manual control at a
point in time does not provide audit evidence about the operating effectiveness
of the control at other times during the period under audit.
Differences between the types of testing the auditor would
undertake for existence and effectiveness of internal controls

Existence of Internal Controls Effectiveness of Internal Controls

Typical audit procedures used include: Typical audit procedures used include:
▰ Inquiry of entity’s personnel ▰ Reperformance
(inquiry alone is not sufficient) ▰ Recalculation
▰ Observing application of specific ▰ Inquiry
controls ▰ Observation
▰ Inspecting documents and reports ▰ Inspection
▰ Tracing transactions through the
information system relevant to
financial reporting
(“walk‐through”)
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Differences between the types of testing the auditor would
undertake for existence and effectiveness of internal controls

Main Difference
▰ The main difference in the types of testing undertaken boils down
to how in-depth the auditor has to perform the procedures (nature
of audit procedure)
▰ When testing for existence, the auditor merely needs to check if
the controls are being applied
▰ On the other hand, when testing for effectiveness, the auditor
needs to go one step further to gather evidence on how the
controls are being applied
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 Differences between the types of testing the auditor would
undertake for existence and effectiveness of internal controls

Example
▰ Existence: By checking the disbursement of documents through a
3-way match (Receiving report, purchase order and purchase
invoice matches before preparing payment to a client) and
validated by the accounts clerk (i.e. stamp by accounts clerk)

▰ Effectiveness: Reperforming the matching that has been done by

the clerk to see if the documents validated by the clerk is properly
done, i.e. having the same result
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If only re-performance is conducted, both existence and effectiveness of internal controls are tested.
“ (b) What important control functions are
served by mailing monthly statements to
customers? Why is it important to
separate the duties of responding to
customer complaints from the accounts
receivable and cash collection
functions?

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What important control functions are served by
mailing monthly statements to customers?

▰ Providing an opportunity for customers to verify the balance owed and

activity on the account. Concise communication with customers will
allow early spotting of red flags.

▻ Serves to meet the control objective of accuracy and occurence

▻ Cash receipts have been recorded correctly as to amount
▻ Sending monthly statements is a form of evidence that the amount
billed had been properly documented

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Why is it important to separate duties of responding to
customer complaints from AR and cash collection function?

▰ The separation of duties is important to ensure that misappropriation of

the company’s cash does not take place and go unnoticed

▰ If the same person were to be collecting the cash also handles the
complaints from the customer, it would be easier for that same person
to be stealing the cash as these complaints will not reach management

▰ Further, the misappropriation of cash may even worsen into lawsuits

and the company would be unaware about it until then
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Why is it important to separate duties of responding to
customer complaints from AR and cash collection function?

▰ Scenario of non-segregation:

a. Personnel collects cash receipt from customer and deposit to his own account
b. Customer is sent a Reminder Letter, notifying that payment has not been made
c. Customer puzzled and sends a complaint to the firm that he has paid
d. Personnel who collects cash handles the complaint and informs that payment has been made
and will be reflected in due time
e. The personnel may be acting on rationalising that he will pay later and deposit the cash receipt
of that customer
f. Cash Fraud goes undetected

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“
(c) You have just completed an evaluation of controls in the
cash receipts area. You note the following key controls as part
of your evaluation.
▰ All cash handling is independent of the accounting
function’s cash recording.
▰ There is an independent check that cash receipts are
recorded in the correct account.
▰ There is a policy of depositing cash receipts each day.
Provide an example of one audit procedure that could be used
to test the control for each of the key controls identified
above.

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 Example of an audit procedure that could be used to
test the key controls

All cash handling is independent of accounting function’s

cash recording

Audit Procedure that can be used:

▰ Observation - Observe application of controls
surrounding the handling of cash to ensure that there
is proper segregation of duties
Eg. Monitor how the staff work when cash is received
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 Example of an audit procedure that could be used to
test the key controls

There is an independent check that cash receipts are

recorded in the correct account

Audit Procedure that can be used:

▰ Inspection - Examine evidence that independent check of
cash receipt classification (investing/operating/financing
activities) was carried out
Eg. Checking for presence of signatory
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 Example of an audit procedure that could be used to
test the key controls
There is a policy of depositing cash receipts each day

Audit Procedure that can be used:

▰ Inquiry - Enquire about the policy of depositing cash
receipts each day (SSA 315 A75 says this is not
sufficient)
▰ Inspection - Inspect the bank statements to see if there
are cash deposits that occur everyday
Eg. Check samples of bank statements against recorded cash receipts to
see if they were indeed deposited on the day itself. 19
“ Thank You!