Auditing and Ethical Issues

Lecture 9

Tutorial 9 : The Audit of Purchase and Payment Cycle 1
Review the lecture notes and reading materials, ask in the tutorial if you do not understand
Part 1 Fill-in the blanks and Short Questions
1 / ______will be raised when certain users or user department require purchase of resources from outside suppliers.
2 / After approval, ______will be placed upon the authorized
suppliers.
3 / Goods from suppliers are often accompanied with ______.
4 / Upon receipt of goods from the suppliers, the stores staff will prepare ______.
5 / We expect suppliers to send us ______after the delivery of goods we have ordered.
6 / Periodic purchase total, e.g. monthly, will be recorded in the ______and the details of each purchase will be recorded in the ______of the purchase ledger.
7 / How can a company ensure that quantities of goods ordered do not exceed those that are required ?
8 / What are the important checks that should be made on invoices received from suppliers ?
9 / What tests should auditors carry out on credit notes received ?
Part II Long Questions
10 / During the audit of the purchase system, John has identified the following control procedures at various stages of the system : -
Ordering
- each of the purchase order form has an unique serial number
- purchase orders are fully supported by purchase requisition notes
- quotations from potential suppliers are retained
Receipt of goods
- goods received notes are checked against purchase orders
- goods are carefully inspected upon receipt
Accounting
- purchase invoices are checked against purchase orders and goods
received notes
- the arithmetical calculation in the purchase invoices are checked
- statement of accounts from trade creditors are checked against
purchase ledger monthly
Required
Identify the possible errors if any of these control procedures are not performed.
Part III Revision Questions
1 / The organization chart of Fasso Manufacturing Co., Ltd shows that each department has a department head. The following narrative notes on the purchases and cash payment systems are found in the current year audit file.
Requisition and ordering
When the production department cannot obtain adequate production materials from the warehouse department, a purchase requisition form is prepared by a production clerk and is passed to the purchasing department. The purchase clerk will assign a number to each purchase requisition form received.
The purchasing clerk will choose to place orders with any supplier who can take the shortest time to deliver the goods ordered. A set of purchase orders has one original which is sent to the supplier and four copies distributed as follows :
Copy 1 - Receiving department
Copy 2 - Production department
Copy 3 - Accounting department
Copy 4 - Purchasing department
The purchase orders are numbered in date order so that the purchasing clerk can keep track of any long outstanding orders. The following details are included in the purchase order:
- name and address of supplier
- particulars of goods and services ordered
- unit price of goods and services ordered
- expected time of delivery
Receiving
Upon the delivery of the goods by the suppliers, the receiving clerk stamps the company's chop and initials on the supplier's delivery note to acknowledge the receipt of goods. Goods received and the delivery note will be sent to either the warehouse for storage or be delivered directly to the production department for consumption.
Cash payment
All supplier invoices are sent to the accounting department with a serial number assigned to each invoice. An accounting clerk who is responsible for payment will check with the purchasing clerk whether the items charged on the invoices have been ordered by the purchasing department. Once the purchasing clerk confirms the goods ordered, the payment clerk will issue a crossed cheque with the invoice attached and sends the set of documents to the financial controller for approval of payment. All cheques are signed by two authorized signatories and mailed by the mailing department.
Required
Identify ten internal control weakness of the purchases and cash payment systems and make recommendations for improvement.
Question 4, Jun 1997 HKAAT – Paper 8 Auditing
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Tutorial Exercise – Answer
Tutorial 9 : The Audit of Purchase and Payment Cycle 1
1 / requisition notes
2 / purchase orders
3 / delivery notes
4 / goods received notes
5 / purchase invoices
6 / purchase accounts, supplier/trade creditor account
7 / A company can ensure goods ordered do not exceed requirements by setting re-order quantities and re-order limits, e.g. max stock level
and re-order level.
8 / Invoices from suppliers should be checked for correctness of prices and quantities and accuracy of calculation. They should be compared with purchase orders and goods received notes.
9 / Auditor should
a. verify the correctness of credit notes with previous correspondence
b. confirm by reviewing stock records and records of returns that
goods have been returned.
c. check credit notes have been correctly accounted for by checking
entries in the purchase day book and purchase ledger.
10 / Ordering
- all purchases may not be recorded
- goods and services may be purchased which are not required
- the company may fail to buy at the best prices
Receipt of goods
- goods may be accepted which have not been ordered
- goods may be damaged or the quantity may be wrong
Accounting
- purchase invoices may be received for goods that have not been
ordered
- purchase invoices may be incorrect
- accounts may not be correctly updated
Answer to Revision Questions
1 / Weakness / Recommendation
Purchase requisition should not be initiated by the production department. Only the warehouse department has the authority to request for ordering and has to ensure adequate stock is available for production. Otherwise, the inventory control system cannot function properly. / A material requisition form is raised by the production department and is passed to the warehouse department for them to pack and deliver the required materials for production. However, if the warehouse department notes that the stock level will be lower than the re-order level, then the warehouse department has to raise a purchase requisition for the purchasing department to place orders with suppliers.
No proper approval is documented on the material requisition form. As a result, purchase orders might have been placed for goods or services which are not authorized. / Purchasing department head should initial on the purchase requisition form as evidence of approval to purchase the goods or services.
The purchasing clerk has not asked for quotations from various suppliers. Normally suppliers tend to charge a premium over short delivery time. As a result, the company will bear high cost of production. / If a good inventory control system is in place, the usage of materials during the normal delivery period should not exceed the re-order level and the minimum stock level in case of the worst scenario.
Despite the purchase orders are numbered in date order, the completeness of purchase orders cannot be ensured as the last number of day has no link with the first number of the following day. / The purchase orders should be pre-numbered.
The company is taking the risk of unauthorized commitment being made by the purchasing clerk. / Before placing any purchase orders, the head of the purchasing department must match the requisition with the purchase order and has to initial on the purchase order as evidence of approving the purchase order.
Goods can be accepted without being ordered because the receiving clerk does not compare the particulars and quantity of goods received. / The receiving clerk must compare the particulars and quantity of goods received against copy 1 of the purchase order filed in the receiving department.
Goods received have not been inspected and counted. Goods of substandard quality and any shortfall in quantity cannot be identified immediately. / All goods received by the receiving department have to be counted and inspected immediately.
It is inappropriate for the receiving department to distribute materials directly to production department, otherwise, there exists the opportunity for goods received but not updated in the inventory record / All goods received must be delivered to the warehouse for the warehouse department to update the inventory record and to fulfil the material requisitions of the production department.
Neither the supplier's goods delivery note nor internally generated goods received note is being sent to the accounting department for evidence of goods received. There is the risk that invoices are paid without goods being received. The purchasing department has not been informed of the quantity of goods received, thus it is difficult for them to control the status of the fulfilment of orders placed. / The goods received clerk should prepare a set of pre-numbered goods received note for distribution to various departments (i) the accounting department for them to match the particulars and quantity of goods being received against the supplier invoice; (ii) the purchasing department for them to update the status of goods ordered; (iii) the warehouse department for them to update the stock record (iv) and the receiving department with a file copy.
Goods or services can be paid for without being received. The existing procedure can only confirm the goods have been ordered but it does not prove the goods or services having been duly received. / The accounting clerk should receive documentary evidence from the receiving department and matches the details against the invoices before issuing of cheques.

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