FACULTY OF BUSINESS MANAGEMENT SCIENCES AND ECONOMICS

DEPARTMENT OF FINANCE AND ACCOUNTING

STUDY NOTES (October, 2020)

Auditing 1
AC210

1. Introduction to Auditing
2. An Overview of the Audit Process
3. Important Elements of the Audit Process

4. Accounting Cycles (Part B)(Acquisitions and Payments cycle)

Topic 4 of 4

1
Contents
1. Internal Controls of the Business Cycles ............................................................................................ 3
2. The accounting system and control activities ..................................................................................... 3
3. Characteristics of the cycle ................................................................................................................. 3
a) Ordering of goods (and services) .................................................................................................... 7
Function .......................................................................................................................................... 7
Documents records.......................................................................................................................... 7
Risks................................................................................................................................................ 8
Control activities ............................................................................................................................. 9
b) Receiving of goods function ........................................................................................................... 9
Documents records........................................................................................................................ 10
Risks.............................................................................................................................................. 11
Control activities ........................................................................................................................... 11
c) Recording of purchases function .................................................................................................. 12
Documents records........................................................................................................................ 12
Risks.............................................................................................................................................. 13
Control activities ........................................................................................................................... 13
d) Payment preparation (requisitioning) ........................................................................................... 14
Documents records........................................................................................................................ 14
Risks.............................................................................................................................................. 15
Control activities ........................................................................................................................... 15
e) Actual payment (preparing the cheque) and recording function ................................................... 16
Documents records........................................................................................................................ 16
Risks.............................................................................................................................................. 17
Control activities ........................................................................................................................... 17
Exam practice questions ....................................................................................................................... 19
Question 1 ......................................................................................................................................... 19
Solution ......................................................................................................................................... 19
Question 2 ......................................................................................................................................... 20
Solution ......................................................................................................................................... 22
Question 3 ......................................................................................................................................... 25
Solution ......................................................................................................................................... 26

2
1. Internal Controls of the Business Cycles

A. Revenue and B. Acquisition C. Inventory D. Payroll and E. Finance and

Receipts Cycle and Payments and Production personnel Investment
Cycle Cycle Cycle Cycle

2. The accounting system and control activities

 The acquisitions and payment cycle deals with two major activities which
are linked but which are also quite distinct, i.e.
• The ordering and receiving of goods (or services) from suppliers, and
• The payment of amounts due for the goods ordered and received
 The acquisition phase of the cycle attempts to ensure that the company
orders and receives only those goods which it requires and that the goods are
of a suitable quality and price.
 The payments phase of the cycle attempts to ensure that only goods that
have been validly ordered and received, are paid for and that payment is
authorised, accurate and timeous.

3. Characteristics of the cycle

Susceptibility to fraud.
* The cycle includes procedures which facilitate the payment of creditors
which means that there will be the necessary mechanisms to facilitate an
outflow of funds from the business.
 Stealing from the company through the official payment system may be
considerably easier than say, stealing inventory or creating fictitious
workers to steal wages.
* The cycle is also fertile ground for corruption.
 Suppliers may offer the company’s directors or buying department
employees, bribes or other illegal inducements to purchase their products.
 Senior personnel may engage in tender fraud

3
 1.Ordering of
goods

5.Actual
payment and 2.Receiving
recording of of goods
the payment
Acquisition
and
Payments

3.Recording of
4.Payment
purchases
preparation
(acquisitions)

4
 • There must be a section or department which initiates the placing of
orders for goods or services with suppliers
Ordering of • Requests for orders to be placed will come from other departments,
goods e.g. the Warehouse (stores) department, The accounting department
(stationery, etc).

• This function will be responsible for receiving goods

Receiving of ordered from suppliers and acknowledging the
goods company’s acceptance of the goods.

• The purpose of this function is to raise the purchase

Recording of and the corresponding liability (creditor) in the
purchases
(acquisitions) accounting records.

• This function will be responsible for determining the amount to

Payment
preparation be paid to the creditor, confirming that the payment is valid and
preparing any documentation required for the payment to be
authorized and initiated.

• This function will be responsible for preparing the means of payment, e.g.
Actual cheque or electronic funds transfer, authorizing it and carrying out the
payment and payment timeously.
recording of
the payment • The function will also be responsible for recording the payment in the
accounting records.

5
 6 Credit
5 Purchase note 7 Creditors
invoice statements
4 Goods
8 Cheque
received
requisitions
note

3 Suppliers 9
delivery Remittance
note advice

2 Purchase
10 Receipt
order forms

Documents in the 11 Logs,

1
Requisition Payments and variance
reports
Acquisition Cycle

6
a) Ordering of goods (and services)
Function
 The function is responsible for initiating and placing official orders with
suppliers having established that delivery, quality, quantity and price
requirements have been satisfied.
 The acquisition of goods and services includes:
 purchase of raw materials,
 supplies,
 manufacturing equipment,
 furniture, and fixtures and
 payment for repairs and maintenance,
 utilities, and
 professional services.
 This process does not include hiring and paying employees or the internal
allocation of costs within an entity.

 The ordering function is essentially responsible for obtaining the correct type
and quantity of goods at the best price and desired quality.
 Before being placed on the approved supplier list, the supplier will be
thoroughly investigated for reliability of delivery, quality and price.

* In a manual system, hardcopy requisitions from departments requiring

goods of some kind will be delivered to the buying department.
* The buying clerk will manually complete a multicopy pre-printed,
sequenced purchase order after checking with the supplier as to
availability and price of the goods to be purchased, and referring to
supplier catalogues for descriptions and codes.
* The buying clerk may refer to a hardcopy list of approved suppliers or
may choose a supplier himself.
* A chief buyer may scrutinize all purchase orders and approve them by
signing the document.
* The order will often be placed by phone, and a hardcopy sent as
confirmation by fax or post.

Documents records
* Requisition.
 This document requests goods or services for an authorized individual
or department within the entity.
 Examples of such requests include an order for supplies from an office
supervisor and an order for newspaper advertising space from a
marketing manager

7
 * Suppliers list

* Purchase order forms.

 Purchase order forms which are completed by the buying department,
record the detail and price of the goods to be purchased and are
addressed to the supplier.
 They should be signed by the chief buyer.

Risks
* Ordering of incorrect or unnecessary goods, resulting in liquidity problems
and wastage.
* Ordering unauthorised goods resulting in losses to the company through
fraud.
* Requisitions not acted upon or orders not placed timeously or at all
* Obtaining inferior quality goods.
* Paying unnecessarily high prices for goods.
* Orders placed with suppliers not filled / not timeously filled.
* Order forms misused e.g. for placing orders for private purchases.

Requisition
(From other
departments)

Selected
Suppliers
list

Filed numerically

To Recording
th
4 Copy Purchase Order

3rd Copy Purchase Order To Receiving

2nd Copy Purchase Order

1 - Purchase Order
To Supplier

8
Control activities
1. Order clerks should not place an order without receiving an authorised
requisition.
* The order should be cross referenced to the requisition
* Prior to the requisition being made out, inventory/production personnel
should confirm that the goods are really needed especially where preset
re-order levels and re-order quantities are used as the basis for the
requisition.
2. Before the order is placed, a supervisor/senior buyer should:
* Check the order to the requisition for accuracy and authority.
* Review the order for suitability of supplier, reasonableness of price and
quantity, and nature of goods being ordered.
3. The company should preferably have an approved supplier list to which the
buyer should refer when ordering.
* If the company does not have approved suppliers the buyer should seek
quotes.
4. The ordering department should file requisitions sequentially by department
and should frequently review the files for requisitions which have not been
cross referenced to an order.
5. A copy of the order should be filed sequentially and the file should be
sequenced checked and frequently cross referenced to goods received notes,
to confirm that goods ordered have been received.
6. Blank order forms should be subject to sound stationery controls.

b) Receiving of goods function

 The purpose of this function is to accept and acknowledge deliveries of
valid orders from suppliers and to record the delivery.
 Prior to acceptance, physical checks on quantity, quality and description
of goods should be carried out.
 Only goods for which valid purchase orders have been placed, should be
accepted.
* A copy of all purchase orders will be sent to the receiving bay and filed in
numerical sequence
* On arrival of the goods from the supplier, the receiving clerk will match the
purchase order reference on the suppliers delivery note to the purchase order
to determine the goods to be received
* The receiving clerk should count the goods received against the delivery
note and purchase order and should perform at least a superficial check of
the quality of the goods.
 Any deliveries which are incorrect or rejected will be clearly marked
on both copies of the suppliers delivery note and the amendment
signed by the supplier’s employee and the receiving clerk

9
* The receiving clerk will make out a sequenced goods received note for the
goods actually received, cross referencing it to the purchase order and
delivery note
* The goods will then be transferred from the receiving bay, which should be a
physically separate section of the warehouse, to the inventory department
who are responsible for the custody of the inventory.

Documents records
Suppliers delivery note.
 This document is made out by the supplier and details the goods which are
being supplied.
 It will be cross-referenced to the purchasing company’s order form and on
delivery of the goods, will be signed by the purchasing company to
acknowledge the receipt of the goods.
Goods received note.
 This document is completed by the purchasing company when the goods are
delivered by the supplier.
 It records the actual goods received and will be cross-referenced to the
suppliers delivery note.

2nd copy Purchase order 2nd Copy Supplier Delivery Note

(from ordering dept)
1st Copy Supplier Delivery Note

+ GOODS

Match goods, order and

delivery note

File
numerically
3RD Copy GRN
2nd copy GRN To recording
function
1st copy Goods received Note

To stores
with goods

10
Risks
* Acceptance of
 Short deliveries as full deliveries
 Damaged and broken items
 Items not ordered
 Goods not of the required type or quality
* Goods received notes not made out accurately or completely
* No goods received note made out
* Theft by employees or outside parties, e.g. Collusion with supplier delivery
personnel

Control activities
1. The responsibility for receiving goods should be designated to a goods
receiving section which should be physically secured and access controlled.

2. On arrival of the delivery vehicle, goods should be offloaded in the presence

of a goods receiving clerk who should:
• obtain the supplier delivery note from the delivery personnel and by
referring to the order number thereon, locate the purchase order.
• check the quantity and description of goods delivered against the
purchase order and the customer delivery note
• perform at least a superficial test of the condition of the goods delivered
• reject all incorrect deliveries and clearly identify rejections on both copies
of the delivery note and purchase order
• accept goods short delivered but identify such goods clearly on the
delivery notes and purchase order.
• include on the goods received note, only those goods which have been
accepted.
• ensure that the suppliers’ personnel sign both copies of the delivery note
including all amendments e.g. identification of short deliveries
• sign the supplier delivery note

3. On transfer of the goods to the warehouse, the warehouse clerk should

compare the physical goods to the goods received note and acknowledge
receipt by signing the GRN. Any discrepancies should be reported to the
warehouse controller immediately.

11
c) Recording of purchases function
* The purpose of this function is to record the purchases made and the
corresponding creditor for all purchases, accurately and timeously.
* The purchases will be entered in the purchase journal and allocated to the
correct account to be posted to the general ledger and creditors ledger
* Before being entered, the invoice sent by the supplier should be:
 Matched to the
 Purchase order,
 Supplier delivery note and
 Goods received note, and
 Inspected for signatures of employees who perform a control
procedure.
 Checked against supplier price lists or prices quoted on the purchase
order
 Checked for accuracy of casts, extensions, discounts and vat
* All of the above will be performed manually on hard copy documentation.
 A copy of each of the documents used,
 Customer order, will have been sent from the originating function/section
and filed in a temporary file awaiting the arrival of the invoice from the
supplier.

Documents records
Purchase invoice.
 This document is sent by the supplier to the purchasing company to inform
them of the goods for which it is being charged, the price, any discounts and
VAT.

Credit note
 This is a supplier document which records any credits to the purchasing
company’s account other than a payment, i.e. when incorrect, damaged or
unwanted goods are returned by the purchasing company.
 Returned goods should be accompanied by a returned goods voucher.

Creditors statements.
 Produced by the supplier on a monthly basis; this document summarizes the
transactions between the supplier and purchasing company for the month, in
terms of the supplier’s records.
• Creditors statements
• Purchases journal
• Purchases returns & allowances journal
• Creditors ledger
• General ledger

12
 Supplier’s 3rd Copy 2nd copy GRN Delivery Note
Invoice Purchase Order

Match documents, check prices,

calculations, and reconcile

Enter in Purchase journal

General Ledger Creditors’ Ledger

Risks
* The recording of incorrect amounts arising from incorrect purchase invoices
 Quantity, quality and type not as ordered or received
 Prices of goods not as quoted
 Calculation errors
* The raising of fictitious purchases/creditors by the introduction of invoices
which are for goods never ordered or received by the company.
* Delays, misallocation and posting errors when entering details into
accounting records resulting in reconciliation problems and failure to make
use of favourable settlement terms

Control activities
1. The purchase invoices received from the supplier should be:
 matched to the corresponding goods received note, delivery note and
purchase order for:
* Quantity and description of goods
* Correct prices and discounts
 Reviewed to confirm that the amounts on the invoice have been allocated
to the correct account.

2. All casts, extentions and calculations on the invoice should be reperformed.

13
3. A specific employee should be designated the responsibility of ensuring, by
scrutiny of dates of goods received notes and invoices in the pending file,
that purchases are timeously and accurately recorded in the purchase journal
and correctly posted to the creditors ledger.

4. As the rendering of services by a supplier does not usually result in a GRN,

the supplier invoice will normally be signed by the head of the
section/department to whom the service was rendered, as proof and approval
of the service rendered.

d) Payment preparation (requisitioning)

 This is an extremely important function because if it is not controlled
properly, invalid payments can be made.
 All supporting documentation, i.e. order, delivery note, goods received note
and invoice, should have been matched as above and will now be reconciled
to the creditors statement and the creditors account in the company’s
creditors ledger by employees in the creditor’s section.
 Creditors are normally paid once a month and not as individual invoices
arrive.
* Normally a creditor’s statement will be sent by the supplier towards the end
of the month.
 The statement will reflect the balance owed to the supplier at the start of
the month, all invoices issued and all payments received as well as any
adjusting entries
 Credit notes passed by the supplier for goods returned, and the balance
owing at the end of the month.
 This balance owing will be broken down into the periods for which it has
been outstanding,
* The creditors statement will be reconciled with the supporting
documentation and the creditors account in the company’s creditors ledger
* A schedule of “payments to creditors” will be prepared and cheque
requisitions and remittance advices made out.

Documents records
Cheque requisitions.
 A form completed by the creditors section of the purchasing company
requesting that a cheque be made out for a particular creditor.
 Details of the creditor and amount to be paid will be shown on the
requisition.

14
Remittance advice.
 A document sent by the purchasing company to the supplier which contains
a breakdown of the invoices which are being paid by the accompanying
cheque.

Doc
Doc
Supporting documentation
eg invoice, GRN, delivery
note

Plus

Creditors’ statement

Reconcile Creditor’s ledger

Remittance advise

Cheque Requisition

Risks
* Payment to fictitious creditors
* Payment of incorrect amounts
* Unauthorised payments
* Discounts lost due to late payment

Control activities
1. The monthly creditors statement sent by the supplier should be reconciled to
the supporting documentation, and the creditors clerk should ensure that the
invoices were subjected to accuracy controls before being recorded.
2. The individual creditor’s accounts in the creditors ledger should be
reconciled with the monthly creditors statements sent by the suppliers.
3. A creditors clerk should identify those creditors who must be paid at month
end to comply with the suppliers’ credit terms and to ensure that discounts
available for early settlement, are deducted.

15
4. Cheque requisitions should be sequenced and preprinted and unused
requisitions subject to sound stationery controls.
5. Cheque requisitions should include details of the cheque being requested and
should be authorized by the preparer of the requisition.
6. The cheque requisitions and supporting documentation should be presented
to the cheque signatories.

e) Actual payment (preparing the cheque) and recording function

* This function which should be solely responsible for actually making the
payments to creditors, whether it be by cheque or EFT.
 The function will also be responsible for recording the payment.
 Note, that cheque signatories and those responsible for approving and
releasing electronic payments will be independent of the payment
preparation procedures,
 The same individual should not prepare and sign the cheque, there should
be as split between preparation and approval.
* An employee in this function will write out a cheque for each creditor and
present the cheques to the signatories with the supporting documentation for
approval (signature).
* The cheque and remittance advice will then be sent to the creditor.
The cash payments journal is written up and the payments subsequently entered
in the creditor’s ledger and general ledger.

Documents records
• Cheque.
• Returned paid cheque.
• Bank statement.
• Cash payments journal (CPJ).
• Creditors and general ledger.
Receipt.
 A document provided by the supplier to acknowledge that a payment has
been received.

16
 Supporting docs plus Filed in alphabetical
cheque requisition order

Unsigned cheque

Signatories Enter in cash

scrutinise the docs payments journal
and sign the cheque

General Creditors
ledger ledger
Unsigned cheque

Risks
* Cheques may be incorrectly made out.
* Invalid payments may be made.
* Payments may be recorded inaccurately or may be intentionally misstated to
hide fraud.

Control activities
1. There should be two cheque signatories for all cheque payments.
2. Cheque signatories should agree details on the cheque, i.e. Date, amount,
payee, to the supporting documentation (invoice, goods received note,
remittance advice).
3. Cheque signatories should cancel (by stamp or crossing) all documentation
so that it cannot be presented again in support of a payment.
4. All cheques should be made out in a manner which makes subsequent
tampering with the cheque very difficult e.g. * use of permanent ink
* No gaps into which additional detail can be inserted to change the amount
or payee
* Writing out the payee’s name in full
* Crossing cheques “not transferable”
5. Cheque books and cheques should be issued in strict numerical sequence and
if possible, restricted to only one in issue at any time, and should be subject
to strict stationery controls.

17
6. If a cheque is incorrectly made out, the face of the cheque should be stamped
“cancelled” and the signature torn off. The cheque should be retained not
thrown away.
7. Signed cheques should not be returned to the preparer but should be mailed
by an independent employee.
8. All cheques should be recorded in numerical sequence.
9. The CPJ should be reviewed regularly, by management, for missing cheque
numbers and unusual payments.
10.Reconciliation of the cash book to the bank statement should be performed
and reviewed monthly, by employees who are independent of banking
functions, and the creditors department.
11.Returned paid cheques should be
* Filed in numerical sequence
* Reviewed for suspicious endorsements, payees, amounts by someone
independent of the initial preparation of the cheque. This is an additional
and simple detection check on the payment system as a whole.

18
Exam practice questions

Question 1
You are part of the internal audit team of The Family Store Limited, a large
general dealer in Zimbabwe. On review of the current year financial statements
the external auditors reported material discrepancies between physical inventory
on hand and perpetual inventory in the financial records. As a result, the
financial director requested internal audit to perform an investigation into the
effectiveness of the system of internal control over the ordering of goods, as an
important function in the purchasing of inventory for the company.

Ordering of goods
You identified the following risks in the ordering of goods function which
could occur due to weaknesses in the system of internal control:
1. The ordering of incorrect or unnecessary goods, resulting in liquidity
problems and wastage.
2. The ordering of unauthorised goods resulting in losses to the company
through fraud.
3. Obtaining of inferior quality goods.
4. Paying unnecessarily high prices for goods ordered.
5. Orders placed with suppliers that are not filled / not timeously filled.
6. Order forms that are misused, for example for placing orders for private
purchases.

Required
Advise management of the internal controls (in a manual system) that could be
implemented to mitigate the risks that you identified. (15 marks)

Solution
Internal controls over the ordering of goods in a manual system (15 marks)
Risk 1
a) Order clerks should not place an order without receiving an authorised
requisition. (1½)
b) The order should be cross referenced to the requisition. (1½)
c) Prior to the requisition being made out, stores/production personnel
should confirm that the goods are really needed. (1½)

Risk 2
a) Before the order is placed, a supervisor/senior buyer should:
 check the order to the requisition for accuracy and authority; (1½)
 review the order for suitability of supplier, reasonableness of price and
quantity, and nature of goods being ordered. (1½)

19
 b) Segregation of duties should exist between the ordering and authorisation
duties.(1½)

Risk 3
a) The company should preferably have an approved supplier list to which
the buyer should refer when ordering. (1½)

Risk 4
a) Before a supplier is approved, senior personnel should carefully evaluate
the pricing of products of the company. (1½)
b) The suppliers masterfile could include a price list of goods
normally/contracted to be purchased from the supplier. (1½)
c) If goods need to be purchased from a supplier other than the usual
approved suppliers, or goods not included in the above price list, a
quotation should be obtained for goods to be ordered. (1½)

Risk 5
a) Before a supplier is approved, senior personnel should carefully evaluate
the reputation of the supplier with regards to reliability. (1½)
b) Even when ordering from an approved supplier, the buyer should contact
the supplier to confirm availability and delivery dates. (1½)
c) The ordering department should file requisitions sequentially by
department and should frequently review the files for requisitions which
have not been cross referenced to an order. (purchase requisitions cross
referenced to purchase orders) (1½).
d) A copy of the order should be filed sequentially. (1½)
e) The file should be sequenced checked and frequently cross referenced to
goods received notes, to confirm that goods ordered have been received.
(copies of orders cross referenced to goods received notes)(1½)
f) Alternatively the pending file of purchase order forms in the receiving
bay can be reviewed for orders which are long outstanding. (1½)

Risk 6
a) Blank order forms should be subject to sound stationery controls. (1½)

Question 2
You have recently joined Countryboy (Pvt) Ltd, a company which operates a
large general dealer outlet in rural Manicaland, as an internal auditor. The
company sells a wide range of products from bicycle parts to foodstuffs and
clothing. Due to difficulties in staffing (and very erratic electricity supply) the
company’s systems are not computerised.

20
As your first assignment you have been asked to evaluate certain aspects of the
acquisitions and payments cycle and recommend improvements which could be
implemented. The financial director (also newly appointed) has acknowledged
that aspects of the system are poor, but has stated that computerisation is not an
option at this stage and that he does not want to employ additional staff. He is,
however, prepared to change job descriptions, improve documentation if
necessary and spend money on reasonable recommendations which you make.

The control procedures over ordering are sound. Due to the location of
Countryboy (Pvt) Ltd’s premises, it has been necessary for the company to
work closely with suppliers with regard to reliability, pricing etc, and as a result,
purchases are only made from approved suppliers. Aspects of certain other
functions within the cycle are described below:

Receiving of Goods
All goods ordered are delivered to the “receiving/dispatch” area which adjoins
the company’s warehouse. Receiving of goods from suppliers as well as
deliveries/dispatches to customers by Countryboy (Pvt) Ltd take place through
this area. When an order is placed, a copy of the purchase order is sent by the
order department to the warehouse administration office where it is filed in
numerical sequence. When a delivery from a supplier arrives, the vehicle is
directed to the “receiving/dispatch” area. Here any one of the seven warehouse
assistants receives the delivery. The warehouse assistants who are responsible
for the receiving, dispatching and custody of goods, report to the warehouse
foreman. To receive a delivery, the warehouse assistant obtains the purchase
order number from the supplier delivery note, and confirms by scanning through
the purchase orders filed in numerical sequence in the administration office, that
the delivery is in respect of a valid order. As the goods are being offloaded the
warehouse assistant checks them against the supplier delivery note and at the
same time completes a blank pre-printed sequenced goods received note. Any
discrepancies are entered on the supplier delivery note and signed by both the
warehouse assistant and the supplier’s driver.

As most deliveries consist of numerous packages and boxes, the offloading and
completion of the goods received note is a long process. This annoys many of
the drivers who want to offload as quickly as possible so that they can start the
long return journey. As a result, some of the warehouse assistants allow the
supplier delivery staff to offload the goods in the “receiving/dispatch” area
without conducting any checks at the time. Once the goods are offloaded, the
warehouse assistant responsible signs the supplier delivery note and retains a
copy. At a later stage, the warehouse assistant makes out the required goods
received note, and as normal, moves the goods from the receiving/dispatch area
into the warehouse.

21
Preparation of cheques to pay creditors
Manual Pettit, the financial accountant, keeps the cheque book locked away in
the safe. On the 25th of each month, Jean Senna, the creditors clerk, presents
Manual Pettit with a list of creditors due to be paid that month as well as the
amounts they have to pay. (You may assume that the controls carried out by
Jean Senna prior to preparing the list of creditors are satisfactory and that she
signs the list). Manual Pettit then makes out a cheque for each creditor on the
list, signs the cheque and enters the cheque number next to the relevant
creditor’s name on the list. Cheques are carefully made out in a manner which
significantly reduces the risk of cheque fraud e.g. permanent ink, restrictive
crossings etc. He then returns the cheques to Jean Senna who attaches a
remittance advice to each and posts them to the creditor.

Required
a) Identify the risks which a company faces if it does not implement (put in
place) sound control procedures over its “ordering of goods” function. (7)
b) Recommend improvements which should be made to the “receiving of goods
function” at Countryboy (Pvt) Ltd. Provide reasons for your
recommendations. (18)
c) Recommend improvements which should be made to the “preparation of
cheques to pay creditors” function at Countryboy (Pvt) Ltd. You are not
required to provide reasons for your recommendations. (5)

Solution
a) Risks in the ordering of goods function
 If a company does not implement sound control procedures over its ordering
of goods function, the following risks may arise:
 Incorrect goods may be ordered (quantity or type). (1½)
 Goods of inferior quality, resulting in obsolescence, sales returns, etc,
may be ordered. (1½)
 Unnecessary goods may be ordered resulting in wastage/ obsolescence,
cash flow problems. (1½)
 Orders may be placed fraudulently by buyers or others, resulting in
payment by the company for goods never received or used by the
company. (1½)
 The company paying unnecessarily high prices either because
competitive prices are not sought, or because of fraud, e.g. buyers taking
bribes or kickbacks. (1½)
 Requisitions from stores, manufacture or sales departments not acted
upon (timeously or at all) by the ordering department resulting in
production delays, lost sales due to items being “out of stock”. (1½)

22
  Orders placed, not timeously acted upon or not acted upon by suppliers
resulting in the same problems as in 1.6. (1½)
 Order forms misused e.g. to facilitate private purchases by employees, for
which the company will ultimately pay. (1½)

b) Recommendations for improvements to internal controls of receiving of

goods
Recommendation Reasons
The “receiving/despatch” area should Splitting the “receiving” and
be split into separate areas, one for “despatch” areas, and ensuring they
“receiving” and one for “despatch”. are access controlled and secure will
reduce the risk of fraud and theft in the
Both should adjoin the warehouse but receiving function of the cycle e.g. it
should be secure and access controlled will be harder to steal goods by
from the warehouse and each other. sending them out on a delivery vehicle
(1½) instead of transferring them to the
warehouse. (1½)
Each of the seven warehouse assistants This will enhance segregation of duties
should be allocated to a specific between these three functions and
function (segregation of duties), either improve isolation of responsibilities.
“receiving”, “despatch” or “custody of This will in turn reduce the risk of
inventory in the warehouse”, and theft and fraud in the cycle.(1½)
should be restricted to that function.
(The allocation will have to be done
once an analysis of each functions
requirement has been carried out).
(1½)
The purchase order documentation It is unacceptable that goods are
should be re-designed to include an received from a supplier without being
additional copy of the purchase order checked by the receiving staff as this
which is headed “Goods Received facilitates theft, acceptance of
Note” (multi-part stationery) and this incorrect goods, damaged goods, short
copy should be sent to the receiving deliveries etc., as it becomes
department with the copy of the impossible to isolate the point at
purchase order which is already sent to which theft occurred, goods were
the warehouse. damaged or went missing. (1½)

(Note: If the single copy of the
purchase order is used as a GRN,
“receiving” will have no
documentation to refer to at a
subsequent time, e.g. to resolve a
query). (1½)
Writing out a GRN causes the delay
and providing a prepared GRN (which
will provide details of the supplier and
lists the goods ordered) will facilitate
the proper checking of goods promptly
and efficiently. (1½)
23

The warehouse assistant (now a
receiving clerk) should compare the
goods actually received to the
purchase order/GRN and supplier
delivery note not just against the
supplier delivery note, in addition to
checking that the delivery is for a valid Incorrect deliveries (quantities and
order.
Not having to write out a GRN in
detail will result in more accurate and
complete receiving documentation.
(1½)
The intention of this control is to
compare what was received to what
was ordered so that:
Invalid orders will be identified (1½)
type) will be identified (1½)

Discrepancies should be clearly Goods on the order but not delivered at

marked on the purchase order/GRN
and supplier delivery note. (1½)
When the goods are moved from the
receiving area, one of the custody
assistants must check the goods he is
taking custody of against the GRN and
sign the GRN to acknowledge the
transfer. (1½)
all are identified. (1½)
This control makes use of the
segregation of duties created by
splitting the receiving, despatch and
custody and isolates responsibility for
the goods at all times. (1½)

c) Recommendations for improvements to internal controls of preparation

of payments
 Jean Senna should present Manual Pettit with all the documentation
supporting each creditor’s payment on the list given to Manual Pettit, e.g.
order, GRN, supplier delivery note, invoice. (Note: the creditors list is in
effect the cheque requisition.) (1½)
 Before making out the cheques, Manual Pettit should agree the creditor’s
details and amount on the list to the supporting documentation for
completeness, accuracy and validity.(1½)
 Manual Pettit should “stamp/initial” the supporting documentation in
such a manner that it cannot be presented in support of another
(fraudulent) payment. (1½)
 The cheques plus their supporting documentation should be presented to
a second signatory who should again validate the payment against the
supporting documentation before signing the cheque. He or she should
also “stamp/initial” the supporting documentation. (1½)

24
Comments:
Remember that weaknesses are from the viewpoint of the company: “What is
the company currently doing” and why this is a weakness / risk? For example:
Cheques are not sequentially numbered (weakness).

Internal controls are from the internal auditor/management’s viewpoint: “What

should the company do to counter the weakness / risk” and how would this
action prevent the risk ? For example:

Cheques should be sequentially numbered and the sequence of all cheques

should be reviewed and gaps should be followed up on by a person independent
of the person preparing the cheques for payment.

Question 3
Weaknesses in the acquisitions and payments cycle (25 Marks)
Scenario
Delmundo (Pvt) Ltd us a small manufacturing company. The company’s
accounting functions are carried out by the accounting staff consisting of the
accountant, Mary Rooseveld, and two clerical assistants, Stella Stirling and
Dean Ramjan. The new owner of the business John de Marzo, is concerned
about a number of the accounting systems and, not having a business
background, has asked you to review and report on certain systems. However,
his immediate concern is the control over the payment of creditors. To gather
first hand knowledge of how the system currently works, John de Marzo
himself compiled an accurate description of the system which he has given to
you.

1.When an invoice is received from a supplier it is promptly written into

purchase journal by Stella Stirling and filed alphabetically by supplier name.
when the suppliers’ monthly statement arrives Stella Stirling agrees the invoices
received to the statement. She also checks that any payments that were made to
the supplier by Delmundo (Pvt) Ltd are reflected on the statement.

2.if an invoice reflected on the statement has not been received, Stella Stirling
highlights the invoice(s) and marks it ‘’outstanding’’ on the statement. The full
amount reflected on the statement is paid. When the outstanding invoice is
received, it is filed with the statement to which it relates and the ‘’outstanding’’
written on the statement is crossed out and dated, and the word ‘’received’’
written next to it.

25
3.Using the statements Stella Stirling then makes a list of the names if all
creditors and the amounts which they are to be paid. No other information or
supporting documentation is provided with the list. The list is passed to Mary
Rooseveld for payment.

4.To pay creditors, Mary Rooseveld accesses the electronic funds transfer
facility on her computer and complies a schedule of payments to be made by
EFT to creditors. She obtains this information from the creditors list prepared
by Stella Stirling. She careful ly checks the details e.g bank, branch code,
account number of the creditor to be paid against the hard copy file which she
keeps for all creditors. If there is a creditor on the list provided by Stella Stirling
which is not on Mary Rooseveld’s hardcopy list, she phones the cr editor to
obtain the necessary bank details to enable her to make the payment. She
updates her hard copy file. She then accesses Delmundo (Pty) Ltd’s bank
account via her terminal and updates the list of beneficiaries which can be paid
by EFT. To add a beneficiary, Mary Rooseveld must enter her unique password.
Once she has completed the EFT payment schedule she asks Stella Stirling to
carry out an on screen random check of the details entered before authorising
and releasing the transfer. Mary Rooseveld is the only employee to have access
to the EFT facility and EFTs can only be made from her terminal. Each
payment on the creditors list for which an EFT has been made is cross
referenced by date to the EFT schedule by Stella Stirling.

5.Stella Stirling passes the creditors list to Dean Ramjan as he is solely

responsible for the cashbook i.e., writing it up, posting to the general ledger and
subsidiary legers and reconciling it monthly.

Required
Identify the weaknesses in the payments system described above by John de
Marzo. For each weakness you identify, explain briefly why you consider it to
be a weakness. You are not required to make recommendations.

Solution
Weaknesses and explanations in the payments function:
Weakness 1
The invoices received from suppliers are not matched to any other documents
e.g. internal order, supplier delivery note or goods received note. (1½)
Explanation:
Delmundo (Pvt) Ltd could be paying for goods which were:
a. never ordered or never delivered; (1½) OR
b. incorrect in terms of description, quantity or price. (1½)
Weakness 2

26
Before the invoice is paid (goods paid for) there is no check to confirm that the
purchase is authorised (or even that the goods purchased are of a type used by
Delmundo (Pvt) Ltd). (1½)
Explanation:
If nobody checks the above, the risk that employees are purchasing goods for
themselves and having the company pay, is significantly increased. (1½)

Weakness 3
The full amount as reflected on the statement is paid, even where no invoice has
been received. This problem is increased by the fact that nobody seems to
follow up on whether an invoice was subsequently received. (1½)
Explanation:
Delmundo (Ptv) Ltd may be paying for goods incorrectly charged to them. (1½)

Weakness 4
No checks are carried out on the casts, extentions, calculations and VAT on the
purchase invoice. (1½)
Explanation:
This may result in inaccurate payments and under recovery of VAT. (1½)

Weakness 5
No creditors’ ledger appears to be maintained. (1½)
Explanation:
a. Creditors are paid on the strength of an external document only. By having a
creditors ledger (properly controlled and written up) a more accurate record
of purchases and payments (and related adjustments) is maintained. (1½)
b. The creditors’ ledger can be reconciled monthly to the creditors’ statement
and any differences, and unusual items can be followed up before payment is
made. (1½)

Weakness 6
There is insufficient control over payments made by EFT. The company’s bank
account is inadequately protected. (1½)
Explanation:
a. In effect there is only one “signature” required to access the company’s bank
account and transfer funds, i.e. Mary Rooseveld. (1½)
 EFT payments should be controlled by strong segregation of duties,
particularly the authorisation and release functions. The ability to add
a beneficiary should be highly controlled, made only on the strength
of approval from a senior member of staff after careful scrutiny of
supporting documentation including written confirmation of the new
beneficiaries banking details. (1½)

27
b. EFTs are made without supporting documentation and can be made by Mary
Rooseveld at any time and for any amount. (1½)
c. The fact that Stella Stirling carries out on screen random tests is no control at
all. The transfer can be made whether she is there or not. Mary Rooseveld
could be making absolutely sure that every payment on the list of creditors is
correctly paid (and have Stella Stirling check every single payment in detail
but still be making fictitious payments to herself or others). (1½)
d. Making fictitious payments is made even easier for Mary Rooseveld because
she creates and maintains bank details etc for payees. (1½)
e. Furthermore nobody at any stage (before or after the payment) checks
whether payments to creditors or others are valid. (1½)
f. The fact that EFT is only available from Mary Rooseveld’s terminal and that
she is the only one with access is positive but in this situation ineffective in
preventing invalid payments. (1½)

Weakness 7
Review procedures by more senior employees appear to be non-existent, which
amounts to a lack of detective controls and a weak control environment. (1½)
Explanation:
a. 7.1 There appears to be no review of the cashbook/reconciliation carried out
by “management”. Dean Ramjan is “solely” responsible for maintaining the
cashbook. With no independent review of his work, he has the opportunity to
cover up misappropriation, particularly if he is colluding with another
member(s) of the accounting department. (1½)
b. There is no review of EFT payments made (by anyone). This simple control
provides an opportunity for an (independent) senior employee to pick up
payments that look suspicious (e.g. strange payee, or strange amount). (1½)
Note: This would be a useful review for John de Marzo to carry out, to keep
him informed of who is actually being paid and to improve the control
environment.

Weakness 8
Almost total lack of involvement of senior personnel/owner. (1½)
Explanation:
With such a small staff, and a lack of basic controls, the owner/senior
management should be playing an active role e.g. second “signatory” on EFT,
reviewing supporting documentation etc. The lack of this involvement weakens
the control environment considerably and facilitates fraud and collusion. (1½)

References
Prescribed textbooks
Internet resources

28