Auditing & Ethics Issues
Tutorial 17
Tutorial 17: The Audit of Bank Balances
Review the lecture notes and reading materials, ask in the tutorial if you do not understand.
Part I Short Questions
1. List the key controls for cash balances
2. What is the most important internal control of cash balances?
3. What are the internal control objectives for bank balance?
4. What is the audit evidence obtained from the bank letter?
5. When should the bank letter be sent?
Part II Long Questions
1. Describe how you would verify the following of items appearing in the accounts of a company:
a. petty cash balances
b. bank overdraft
2. Mr. Chan is carrying out the audit of the financial statements of XYZ Ltd. During the review of the cheque payment system, he has identified the following controls on cash:
a. Blank cheque books and signed cheques awaiting despatch are kept in the safe
b. Sequential control over computer cheques
c. Clerk in Cashier’s Department reconciles bank statement with the cash book monthly; reconciliation is checked independently
Required
List two compliance tests that may be performed by Mr. Chan.
3. An audit trainee has been assigned the responsibility to audit the year end bank balances of Ivy Ltd. At year end date, Ivy Ltd. had ten bank current accounts with ten banks. The audit trainee received bank reconciliation statements at year end date of all the ten bank current accounts and selected five reconciliation statements to reperform.
Required
List five detailed audit steps to be taken by the audit trainee on the reperformance of year end bank reconciliation statements.
4. ABC Cola Ltd is considering to change its operations by selling through vending machines. The proposal involves the purchase of 400 vending machines which will be situated at 80 locations in Hong Kong, and the rental of a warehouse to store the merchandise. ABC Cola Ltd. intends to sell only the standard packages of 250ml at a standard price.
The proposal is finally approved by the Board of Directors. The management then hires an inventory control clerk to oversee the warehousing functions, and two truck drivers who will periodically fill the machines with merchandise, collect cash from the machines, and deposit cash collected at a designated bank. Drivers will be required to report to the warehouse inventory control clerk daily.
In addition to the above, the main office accounts department has set up a number of internal controls to assure the integrity of the cash receipts and warehousing functions.
Required:
a) List 4 internal controls that an auditor would expect to find in order to assure the integrity of the cash receipts of ABC Cola Ltd.
b) List 4 internal controls that an auditor would expect to find in order to assure the integrity of the warehousing functions of ABC Cola Ltd.
c) Other than the controls listed in (b) above, list 2 internal controls that an auditor would expect to be set up by the accounts department of ABC Cola Ltd to assure the integrity of the warehousing functions of ABC Cola Ltd.
(June 1995, HKAAT)
5 The financial controller of HWL Ltd withdrew $3,000,000 from the current account opened with Bank B two weeks before the year end date. In order to cover the misappropriation of cash, he transferred $3,000,000 from the current account with Bank A to the current account with Bank B on the year end date by drawing a cheque on Bank A. He booked the withdrawal from Bank A immediately after the year end date, as if the cheque had not been issued before the year end date, while making use of the one-day delay in clearing the cheque deposit and booking the deposit of $3,000,000 with Bank B on the year end date.
The auditors of HWL Ltd are being sued for negligence by the shareholders. The auditors assert that it is not their responsibility to detect fraud.
Required::
(a) What is the technical name of the technique used by the financial controller in concealing his misappropriation of cash?
(b) Describe the audit procedures that an auditor would perform in order to discover the fraud.
(Part, June 2001 HKAAT)
6. The following is the Bank Reconciliation Statement of X Ltd at 31 December 2001 (HK Bank Account No: 123-456-001, HK Dollars Current Account)
Balance per bank (I) / $23,750Add: Deposits not yet credited by bank (II)
30 December 2001 / 62,000
31 December 2001 / 30,450 / (92,450)
Less: Unpresented Cheques (III)
No.123256 / 80,000
No.123457 / 40,000
No.123458 / 30,000
No.123459 / 1,400
No.123460 / 20,000 / (171,400)
Less: Items credited by bank (IV)
Direct credit by customer A / 50,000
Direct credit by customer M / 70,000 / (120,000)
Add: Items debited by bank (V)
Auto-pay on electricity bills / 750
Overdraft per cash book (VI) / (174,450)
Required:
a. State the details of the audit procedures (I) to (VI).
b. Give the reason for performing each of the audit procedures (I) to (VI)
c. Apart from obtaining confirmation from bank on the balance per bank, state what other audit evidence auditors can obtain from bank confirmation.
d. What is the meaning of kiting? Suggest an audit procedures for the detection of kiting and explain how it works.
(Dec 2002 HKAAT)
AEI-TE-L17-2003 Page 1 of 3
Auditing & Ethics Issues
Tutorial 17
Tutorial exercise – Answer
Tutorial 17: The Audit of Bank Balances
Part I Short Questions
1.a. Arrangement of security measures including use of safes and restriction of access to the safes
b. strict rules on the authorizing of cash payments
c. independent cash counts on a regular and surprise basis
2. cash count at the year end
3. to prevent misappropriation of bank balances and ascertain the authorization and correct recording of the cheque payment
4. the bank letter confirms the existence, amount and ownership of bank balances
5. before the year end
Part II Long Questions
1. a. Petty cash
i. ascertain, record and test the internal controls over the petty cash system and, based on the results of this exercise, carry out the substantive tests
ii. obtain a schedule of balances and agree them with the accounting records
iii. carry out surprise cash counts during the audit and reconcile back to the year-end balances using the petty cash books, if the petty cash balance is material
iv. obtain certificates from the custodians of the cash confirming the balances on hand at the year end, if the petty cash balance is immaterial
b. bank overdraft
i. obtaining confirmation from the bank
ii. ensuring that all receipts and payments were recorded in the correct period and that cheques were not post-dated in order to reduce the overdraft
iii. checking the register of charges if the overdraft is secured
iv. checking disclosure. It should not net off against credit balances at other banks. If it is secured, that fact should be stated.
2. a i review log of cheques. Ensure sequences are complete and all cheques are accounted for
ii. review reconciliation during year to ensure that they are properly performed on a timely basis, initialled by Chief Accountant (or a senior staff differed from the one performing the reconciliation), and that all reconciling items are properly accounted for
3. a. Cast bank reconciliation and the cash book for the relevant period
b. agree balance per bank statement as recorded on the reconciliation with bank statement
c. agree balance per cash book as recorded on the reconciliation statement with the cash book
d. match all items in cash book with bank statement and vice versa for the period
e. clear B/F outstanding items (on material or unusual items) in the reconciliation statement by checking the current year bank statement
f. clear C/F outstanding items (on material or unusual items) in the reconciliation statement by checking the subsequent year bank statement
g. investigate long outstanding cheques
h. examine dishonoured cheques received after the period end
i. ensure that all material debit and credit entries in the bank statements which have not been included in the cash book are properly dealt with through year end adjustments
4.
(a) The system of internal control on cash receipts should provide for:
- cash to be deposited daily by each driver
- daily return of duplicate deposit slips
- reconciliation of cash deposits with the daily net change in inventory
- a periodic independent surprise check of machines to verify that machines are mechanically programmed to charge the authorized prices
(b) The system of internal control on warehousing function should provide for:
- restricting access to the warehouse
- the warehouse inventory control clerk to count and sign for all items going into or out of the warehouse
- drivers to count and then sign for all merchandise received
- alternate driver routes and required vacations
- daily verification of each driver’s ending inventory
(c) Additional system of internal control on warehousing functions set up by accounts department should provide for:
- maintenance of perpetual inventory records
- periodic physical inventory count of merchandise in the warehouse
- a periodic independent surprise check of machines to verify that cash and merchandise in machines equal a predetermined (imprest) total
- provision for explanation of overages and shortages
5. (a) Kiting is the technical name.
Kiting is the transfer of money from one bank account to another and improperly recording the transfer so that the amount is recorded as an asset in both accounts, this practice is used by embezzlers to cover a defalcation of cash.
(b) The auditor should normally perform a cut-off on bank transfer. The auditor should list all bank transfers made a few days before and after the balance sheet date and trace each of the transfers to the accounting records to ensure they have been correctly recorded.
6.
(a) (I): agree bank balance to bank statement
(II): trace deposits in transit to subsequent bank statement
(III): trace unpresented cheques to subsequent bank statement to note date of presentation, investigate cheques not yet clearly for the reason
(IV): trace direct credits to remittance advice, debtors ledger and bank statement
(V): trace direct debit to bank statement and supporting documents
(VI): agree cash balance to cash book
(b) (I): ensure correct bank balance is extracted from bank statement
(II): ensure all cash receipts not deposited in bank at year end are deposited to bank shortly after beginning of the year
(III): ensure proper cut-off at year end in the cash payment record
(IV): ensure payments made by debtors are reflected in debtors account
(V): ensure amount debited by bank is properly supported
(VI): ensure correct cash balance is extracted from cash book for reconciliation
(c) Bank confirmation not only confirm bank balance but also loans, deposits, bills of exchange, securities held by bank, information on lien or assets pledged with bank and contingent liabilities
(d) Kiting is a form of fraud that overstates cash by causing it to be simultaneously included in two or more bank accounts.
It may be detected by preparing a bank transfer schedule showing dates of all transfers of cash among client’s various bank accounts, or matching of cash entries
AEI-TE-L17-2003 Page 4 of 4