Financial Systems and Auditing - Assignment Example

FINANCIAL SYSTEMS AND AUDITING By Task 1 The accounting records serves the purpose of providing the fundamental means of creating suitable financial statements that are ultimately reported to the external users of accounting information to enhance informed decision making. The external consumers comprise the investors, the tax agencies and the creditors all of whom utilize the information provided by the accounting records in making decisions of varied nature (Reeve, Warren, & Duchac, 2012, pp 12-13). Uses of accounting records Future accessibility of records- the accounting records act as a memory for storage of information for future reference in the future. This solves the problems of memory lapses with regards to business transactions especially during the preparation of financial statements and audit exercise. Compliance with statutory obligations-the accounting records is used by a business to comply with the statutory obligations. The achievement of the statutory obligation to prepare the financial statements that meet the requirement of GAAP that emanates from the accounting records. The accounting records serves as the basis for ascertaining of whether the business is incurring losses or making profits. The evaluation of profit or loss is always a product of the accounting records. The accounting records are used for evaluating the financial position of the business at particular time periods. This emanates from the accounting records regarding the assets, liabilities and the owners capital. This serves as a basis for qualification of a business for external borrowing from banks. An examination of the underlying taxable income of the prevailing the business to be remitted to the tax authorities is the basis for the accounting records. An examination of the worth of the underlying business is guaranteed by appropriate and adequate accounting records. This helps especially during mergers and acquisitions. The management of the business requires accounting records to make viable decisions relating to better management and sound corporate governance. The accounting records are prepared and maintained by the financial accountants and the financial accountants. The accounting records include journals, and ledgers, source papers, income statement, statement of financial state, statement of retained earnings and cash flow statement (Reeve, Warren, & Duchac, 2012, pp 12-13). Task 2 Fundamental accounting concepts In regard to the prevailing concern-means that the business will be in presence for a relatively longer duration. It allows the accounting systems to be designed in the manner that recognizes the future existence of the business. Accrual accounting basis-means that an income is recognized when earned rather than when it is received and expenses recognized when incurred and not when the payment is made. This is significant to the accounting system as it provides an orderly flow for accounting transactions hence easing traceability. Accounting entity concept- means that the business is separate and distinct its operators. This aspect enhances the reparability of personal and assets contributing to the exclusivity of the accounting systems. Time period- means that the perpetual lifetime of a business is subdivided into time periods of equal length. The basis of the subdivision is a twelve-month period. This ensures the accounting system provides for the preparation of financial statements within the defined periods. Monetary unit assumption- means that the accounting records must be expressed in monetary terms. This enables the accounting system to quantify and track the value of the transactions as a result of the various flexibility associated with money as the main way of exchange and corresponding store of worth and a store of value among other functions Task 3 Factors influencing nature and structure of accounting systems Organizations have the opportunity of selecting the appropriate transaction systems between the transaction processing systems and enterprise resource planning systems (Vona, 2008, pp23-26). The nature and structure of these accounting systems are influenced by the following factors: Complexity of business transaction processes: The extent of complexity involved in the capturing of transaction details in a business dictates the type of system to be adopted. Cost of the system: The cost of the accounting system is a crucial aspect of the kind of an accounting system to be adopted by the organization. For instance, enterprise resource planning (ERP) systems is considered the most effective, but it is too expensive to implement as it involves parting with millions of US dollars. Access of accounting information: Organizations must reflect on the ease of access of the accounting information during the selection and final adoption and implementation of the accounting systems. There is necessity to review at the underlying flexibility of data extraction, security of data and possible data manipulation aspects of these accounting systems. Resistance to change factor: The adoption and implementation of the accounting systems may involve the changes in the current transaction approaches or necessities the practice of new transaction techniques in the manner of doing business. Training level: The adoption and implementation of the accounting systems dictates certain levels of training and education to enable the operators of such systems understands their bottom-line. The adopted accounting systems thus depend on the skills and knowledge inherent in their expected operators. Nature of accounting systems implementation: Implementation of accounting systems often take varied forms. For instance, the integration of accounting systems in an organization requires proper review and evaluation by system developers, system developers and the system operators. Task 4 Components of business risks which may affect the initial audit process The business risks that may affect the initial process of auditing include; the economy within which the company operates, the industry within which the company operates, the philosophy of the administration of the prevailing company in regard to the operating and accounting matters, the previous background of the company, the level of turnover of the above administration and corresponding board of directors (BOD), the operating performance and corresponding financial state of the underlying business, the current potential or litigation of the company, the business image of the administration and corresponding shareholders of the underlying company, the appropriate experience of the management and shareholders of the enterprise, companys ownership, the capability of the customer to comprehend the responsibilities of the auditor, conflicts of interest, regulation challenges or problems of auditors independence, the companys geographical location, and the extent of business acuity or the complications within the community where the company operates (Vona, 2008, pp23-26). Task 5 Fraud risk resulting from the embezzlement and intentional preparation of false and misleading accounting records amounts to professional fraud and abuse and is that has negative impacts on the organization. This limits the auditors procedures in unearthing fraud risks. Nevertheless, the enactment of the U.S. Sarbanes-Oxley Act of 2002 has since seen a change of this trend. The companies have taken stringent measures to strengthen their risk assessment and control approaches by increasing their focus on anti-fraud policies, processes and programs and the inclusion of fraud clauses in their code of ethics. The auditor evaluates the information from the assessment procedures based on the presence of fraud factors since fraud is usually detected using the fraud factors (Vona, 2008, pp23-26). The controls for detecting fraud include; the auditor should maintain his professional skepticism during the audit process, conduct meetings with the audit team members to discuss the various aspects of susceptibility of an organization to fraud, pinpoint and evaluate fraud risks by focusing on the incentive, opportunity and rationalization approach, making enquiries from the entity to gather adequate knowledge of the actual, suspected or just alleged existence of fraud, conduct procedures that are analytical that help detect fraud risk agents, conduct on the possible management override for controls, addressing the existing fraud risks, conducting audit tests that are unpredictable and keeping proper documentation (Piattini, 2000, pp44-49). The materiality concept is one of the major concerns of the auditor while giving his opinion on whether the financial statements reflect true and fair view of the company. The auditor always determines the tolerable amount of monetary misstatements upon which he can still maintain true and fair perception of the underlying of financial statements. Materiality is critical in the verification of whether the misstatements are significant such that they can possess impact on the accurate and reasonable assessment of the financial accounts. Materiality is viewed in relation to the nature and size of items and the influence they may pose on the user (Piattini, 2000, pp87-91). Task 6 Improper separation of duties – authorization of transactions, keeping of records, being the custodian of the product of transaction, keeping of records and the reconciliation of the records. Handling of cash deposits and performing bank reconciliation. The handling of check receipts and the approval of write-offs Inadequate controls for cash in the business – Liquidity of cash makes it prone to misappropriation. The inadequate physical security of cash, lateness in making cash deposits and undefined reconciliation periods of petty cash books Improper supervision of workers – the designing of employee payroll with unclear wage rates, and inadequate techniques used for remunerating the casual employees. Task 7(a) The software used for the preparation of the monthly accounts and payroll is lacking the password and the computer is not physically protected. This may lead to unauthorized access to such vital information that can be prone to manipulation. The staff may change the wage rates to suit their self-interests making the entire records unreliable. I recommend that the information should be encrypted with a unique password only known to the relevant employee (s). Additionally, the computer should be accorded adequately physical protection by keeping it away from the staff. The system does not provide for adequate handling of liquid cash. This poses the threat of misappropriation of cash by the cashiers. I recommend that a part of daily till should be properly recorded in a petty cash book for easy access and verification of the exact amounts used for purchasing of small items. Moreover, the management should not take any reconciliation differences lightly; however, small they may be as this will negatively impact advancement of the business. Furthermore, the business should not keep a lot of cash in the safes but rather make deposits as soon as possible. The system has some aspects of inadequate separation of duties. This could lead to fraudulent actions by the staff involved. I recommend that activities such as placing of orders, verification of deliveries and approval of delivery notes are incompatible transactions that should not be handled by one person. Therefore, the management should consider delegating these duties to different individuals. Improper book-keeping of accounting records regarding the fixed assets and payroll information for employees. This leads to principle errors in the case of fixed assets and unreliability of the payment system. I recommend that the organization should employ a competent bookkeeper who has proficient knowledge of the Sage payroll software. Task 7 (b) (i) Tests of control: Sales should be supported by authorized transaction document; the quantities of goods sold should match the quantities billed to the customers; the goods should be sold at prices derived from the approved price list, and the accuracy of the monthly statements (Gupta, 2005, pp33-34). Transactions tests: Verification of the accuracy of credit sales and the accounts receivables; Verification of the legitimacy of all sales receipts; Verification of sales transaction to ensure that only sales of the relevant dates are captured (Gupta, 2005, pp33-34). Analytical procedures: Examining invoice for the supporting documents, examination of the files containing the total sales batch, examination of the price lists approved to ensure the accuracy and adequate authorization, and observing the documents as they are sent (Gupta, 2005, pp33-34). Task 7 (b)(ii) The analytical procedures may give the most conclusive evidence in this situation because in uncovers every aspect of the sales transactions for the external auditor to express opinion on the accuracy of sales transaction (Vona, 2008, pp23-26) Task 7 (c)(i) The reciprocal balance, for instance, the population that the sample for testing for understatement in purchases is the purchases balances that contain all relevant entries relating to purchases. The auditor can, therefore, use such sample to judge the accuracy of the initial entries made (Vona, 2008, pp43) Task 7 (c)(ii) The factors to consider when determining any sample size are; the extent of sampling risk, the rate of tolerable error and the rate of expected error (Georgiades & George, 2008, pp99). Task 8 The auditor cannot an implied guarantee that the financial statements are free from errors, and thus, they can just give a mere reasonable assurance as they give their opinion based on reasonable assurance (Puttick, Van Esch, & Kana, 2007, pp123-131). An audit report gives the following assurance: that the financial statements were prepared with regard to the Generally Accepted Accounting Principles, that the preparation of the financial statements followed the accounting standards and financial reporting frameworks, that the financial statements that are devoid from prevailing material misstatements. Moreover, the audit process was conducted in compliance with the relevant auditing standards. The auditor always applies sampling approach in assessing whether the financial position of a business expresses true and fair view. Sampling allows for factor considerations to ensure that the entire populations of items are fairly represented. Materiality concept is thoroughly evaluated from the samples as well as the sample size that is based on certain parameters. Nevertheless, the assessment of all items is costly, tiresome and time consuming hence may complicate the audit process. Additionally, some errors would still go undetected during the audit process. Therefore, we do not need to check everything to give an unqualified opinion (Gupta, 2005, pp45-47). Task 9 Working papers refers to all the documents upon which the auditor bases his opinion as to whether the financial statements presents true and fair view (Georgiades & George, 2008, pp11) Objectives of the working papers To provide a firm support for the representations made in the auditors report that the audit was performed in accordance with the generally accepted auditing standards. To provide a firm support for the point of view of the auditor within the underlying audit standard to the financial data and assertions. To aid the audit team in the planning and subsequent performing of the audit To act as a reference document to those auditors new to the engagement in the planning and performance of the audit engagement. To facilitate supervision of the audit work and in the review of the quality of audit work performed. To provide an illustration of the accountability of the audit procedures, audit evidence and the conclusions made thereon. To provide a record for matters of progressive significance to future audits of the same business. To facilitate reviews conducted by the quality control staff regarding the authenticity and adequacy of the evidence upon which the auditor based his or her opinion. To enable the senior auditors to conduct peer reviews in line with applicable laws, regulations and other requirements. To facilitate the continuity of audit documentation Working papers are categorized into permanent and current files. Contents of files Permanent file Rules and regulations of the company, statutory documents; Copies of documents of continuing significance and relevance to the auditor such as letter of engagement; Physical addresses of the head office of the business; Organizations chart; A list of books and records used in the audit; Historical background of the enterprise; A list of accounting issues such as accounting policies; Notes on the internal controls; Legal and organizational structure of the company within the group and or associated companies; Background information of the shareholders and directors; A list of the companies investments and property; A list of the organizations advisors; Analysis of crucial ratios and business trends; and A list detailing the insurance information of the company (Wild, & Shaw, 2013, pp33-37). Current file Communication with regard to the annual reappointments of auditors; Relevant extracts from the Board of Directors meeting and the Annual General Meeting; Information on the audit planning and audit programmes; Business transactions analysis and balances; Copies of correspondence from third parties, other auditors and experts relating to the audit process; Records regarding the nature, timing, and scope of the audit procedures performed and their outcomes; A piece of evidence showing that the audit process undertaken by the audit assistants was over sighted and appropriate review underscored by the senior auditor; Letters of confirmation received by the auditor from the client; Copies of terms of engagement and weaknesses identified in the relevant aspects of the existing accounting systems of the organization; Conclusions made by the auditor regarding crucial aspects of the audit; and Copies of the reported financial statements and the relevant audit report (Wild, & Shaw, 2013, pp33-37). Ownership of working papers The working papers collectively referred to as the audit documentation of the auditor. The client can only access working papers at the discretion of the auditor if and only if the disclosure of such information does not compromise the independence of the audit process or the validity of the audit of the audit outcome (Rawindara & Sharma, 2011, pp45-51). Time period validity The auditor is required to outline reasonable framework of retention and accessibility of the working papers for a period not less than 5 years effective from the date the audit report is released. This period is considered sufficient for the auditor to meet all his or her audit practice needs and any other legal or regulatory requirements regarding retention of audit working papers. However, the statutes, regulations or even the quality control policies of an audit firm may provide for a longer period for retaining the working papers (Rawindara & Sharma, 2011, pp45-51). Task 10 A draft of the management letter (Name of auditing firm) (Physical address) Certified Public Auditors. 13th May, 2014 The Board of Directors PLC Manufacturing Company Limited. Dear Board Members, RE: Management Letter We would like to let you know the completion of the interim audit of the consolidated financial statements of PLC Manufacturing Company Limited for the period of 31st December 2012 to 31st December 2013. This interim audit was intended to verify the various aspect of the existing accounting systems so as to present the areas of weaknesses that the management should address. In planning and performing our interim audit in line with the GAAS, we did an evaluation of the internal controls as the foundation for establishing the auditing procedures for the main functions of expressing perception on whether the consolidated financial statements presents a true and fair view and not for the intent of expressing perception on the effectiveness of the internal accounting systems. Nevertheless, in the course of the interim audit, we discovered certain matters that present a greater opportunity of making the internal controls more effective. Please, attached are the items discovered accompanies by their impacts on the performance of the business and the recommendations thereon. We wish to discuss these matters into detail with you at your own convenient time. Kind regards. Yours Sincerely (Signature) (Name of the audit firm) Certified Public Auditors. Matters Discovered The Company has no system of monthly management reporting. Impact: The management is not able to monitor the progress of the business closely. Recommendation: The management should adopt a monthly management reporting system to help in regular monitoring and assessment of the efficiencies of the existing interior controls. The computer system is obsolete. Impact: This compromises the safety and validity of documents under storage as a result of missing links in the documentation. Recommendation: The management should acquire a modern computer system for data entry and storage. There is no evidence of a review of the payroll including the recruitment of the new staff. Impact: This may allow for manipulation of wages hence encouraging fraudulent actions. Recommendation: The management should encourage regular review of the payroll system including that of the new employees. A review on aged debtors is only carried out every 6 months. Impacts: This may result to ineffective transaction tracking. Recommendation: The management should revise their review period downwards to aid effective transaction tracking. Bibliography Cannon, D., Bergmann, T. S., & Pamplin, B. (2006). CISA - Certified Information Systems Auditor study guide. Indianapolis, Ind, Wiley Pub. Edmonds, T. P., Tsay, B.-Y., & Olds, P. R. (2011). Fundamental managerial accounting concepts. New York, McGraw-Hill Irwin. Georgiades, G. (2007). Audit procedures 2007 / 3AS. [S.l.], Infor Systems Audit. Gupta, K. (2005). Contemporary auditing. New Delhi, Tata McGraw-Hill. Guy, D. M., Carmichael, D. R., & Whittington, R. (1998). Audit sampling: a guide for auditors. New York, J. Wiley. Piattini, M. (2000). Auditing information systems. Hershey, Pa, IGI Global (701 E. Chocolate Avenue, Hershey, Pennsylvania, 17033, USA). Puttick, G., Van Esch, S. D., & Kana, S. P. (2007). The principles and practice of auditing. Lansdowne [South Africa], Juta. Rawindara KumāRa, & Sharma, V. (2011). Auditing: principles and prctice. Reeve, J. M., Warren, C. S., & Duchac, J. E. (2012). Accounting: using Excel for success. Mason, OH, South-Western Cengage Learning. Vona, L. W. (2008). Fraud risk assessment building a fraud audit program. Hoboken, NJ, J. Wiley & Sons. http://site.ebrary.com/id/10296347. Wild, J. J., & Shaw, K. W. (2013). Fundamental accounting principles. New York, NY, McGraw-Hill/Irwin. Read More